Principles of Finance Exam Bank
Course Introduction
Principles of Finance provides students with a foundational understanding of financial concepts, tools, and decision-making processes essential for both personal and business financial management. The course explores core topics such as time value of money, risk and return, financial statement analysis, capital budgeting, and the functioning of financial markets. Through case studies and practical applications, students learn how businesses assess investment opportunities, manage assets and liabilities, and make strategic financial decisions to maximize value. This course serves as a building block for advanced study in finance and related business disciplines.
Recommended Textbook
Fundamentals of Corporate Finance 3rd Australian Edition by Berk DeMarzo
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Page 2
Chapter 1: Corporate Finance and the Financial Manager
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Sample Questions
Q1) Financial decisions require that you weigh alternatives in strictly monetary terms.
A)True
B)False
Answer: False
Q2) In Australia, dividend imputation may reduce the tax payable by
A)a non-resident shareholder.
B)a resident shareholder.
C)a corporation.
D)both B and C
Answer: B
Q3) The Valuation Principle shows how to make the costs and benefits of a decision comparable so that we can evaluate them properly.
A)True
B)False
Answer: True
Q4) Corporations are the most common type of business form in the world.
A)True
B)False Answer: False
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Chapter 2: Introduction to Financial Statement Analysis
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Sample Questions
Q1) Consider the above statement of cash flows. In 2018, AOS Industries had contemplated buying a new warehouse for $2 million, the cost of which would be depreciated over 10 years. If AOS Industries has a tax rate of 25%, what would be the impact for the amount of cash held by AOS at the end of 2018?
A)It would have $150 000 less cash at the end of 2018.
B)It would have $2 000 000 less cash at the end of 2018.
C)It would have $1 950 000 less cash at the end of 2018.
D)It would have an additional $50 000 in cash at the end of 2018.
Answer: C
Q2) Allen Company bought a new copy machine to be depreciated straight line for three years. Where would this purchase be reflected on the Statement of Cash Flows?
A)It would be an addition to property, plant and equipment, so it would be an investing activity.
B)It would be an addition to cash, so would be reflected in the change in cash.
C)It would be an expense on the income statement, so it would be reflected in operating cash flows.
D)None of the above options is correct.
Answer: A
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Page 4
Chapter 3: Time Value of Money: an Introduction
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Sample Questions
Q1) A backhoe can dig 175 metre of trench per hour and costs $525 per hour to hire and operate. A ditch digger can dig 5 metre of trench per hour. Based on this information, what is the most a ditch digger can charge per hour when digging ditches?
A)$13.33 per hour
B)$25 per hour
C)$15 per hour
D)$23.33 per hour
Answer: C
Q2) If an arbitrage opportunity exists, an investor can act quickly in the hope of making a risk-free profit.
A)True
B)False
Answer: True
Q3) Whenever a good trades in a competitive market, the price the good trades for determines the value of the good.
A)True
B)False
Answer: True
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Chapter 4: Time Value of Money: Valuing Cash Flow
Streams
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Sample Questions
Q1) You recently bought a house for $357 000. You put 20% of your own money into it, and borrowed the rest. Assuming interest is charged at 0.29% per month and you plan to take 30 years to pay off the mortgage, your monthly mortgage payment is closest to:
A)$1 299.22
B)$1 279.29
C)$319.82
D)$1 599.11
Q2) You are saving money to buy a car. If you save $300 per month starting one month from now at an interest rate of 4%, how much will you be able to spend on the car after saving for 4 years?
A)$15 587.88
B)$41 778.96
C)$15 287.27
D)$13 286.65
Q3) The present value (PV)of a stream of cash flows is just the sum of the present values of each individual cash flow.
A)True
B)False
Q4) Can we apply the growing perpetuity equation for negative growth as well?
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Chapter 5: Interest Rates
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Sample Questions
Q1) What is the implied assumption about interest rates when the equation to calculate the present value (PV)of perpetuity is used?
Q2) Market forces determine interest rates based ultimately on the willingness of individuals, banks, and firms to borrow, save, and lend.
A)True
B)False
Q3) A Xerox DocuColor photocopier costing $42 000 is paid off in 60 monthly instalments at 6.5% APR. After three years, the company wishes to sell the photocopier. What is the minimum price for which they can sell the copier so that they can cover the cost of the balance remaining on the loan?
A)$18 448
B)$26 813
C)$19 645
D)$19 842
Q4) The annual percentage rate indicates the amount of interest, including the effect of any compounding.
A)True
B)False
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Chapter 6: Bond Valuation
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Sample Questions
Q1) Assuming that this bond trades for $1 112, then the YTM for this bond is closest to:
A)9.2%
B)8.0%
C)6.8%
D)3.4%
Q2) The above table shows the yields to maturity on a number of one-year, zero-coupon securities. What is the credit spread on a one-year, zero-coupon corporate bond with a B rating?
A)6.9%
B)0.7%
C)1.7%
D)1.8%
Q3) A five-year bond with a $1 000 face value has a yield to maturity of 5.5% and its coupon rate is 6.0% paid annually. The dirty price of this bond exactly six months after its second coupon payment is closest to:
A)$1 043.49
B)$684.67
C)$1 005.87
D)$983.93
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Page 8
Chapter 7: Share Valuation: the Dividend-Discount Model
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Sample Questions
Q1) Luther Industries has a dividend yield of 4.5% and a cost of equity capital of 12%. Luther Industries' dividends are expected to grow at a constant rate indefinitely. The growth rate of Luther's dividends is closest to:
A)16.5%
B)12%
C)7.5%
D)5.5%
Q2) A company is expected to pay a dividend of $3.20 per share every year indefinitely and the equity cost of capital for the company is 10%. What price would an investor be expected to pay per share next year?
A)$16.00
B)$8.00
C)$32.00
D)$24.00
Q3) Assuming everything else remains unchanged, how does a firm's decision to increase its dividend payout ratio affect its growth rate?
Q4) Stocks that do not pay a dividend must have a value of $0.
A)True
B)False
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Chapter 8: Investment Decision Rules
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Sample Questions
Q1) If WiseGuy Ltd uses the IRR rule to choose projects, which of the projects (Project A or Project B)will rank highest?
A)Project A
B)Project B
C)Project A and Project B have the same ranking.
D)Cannot calculate a payback period without a discount rate.
Q2) Is there a unique way for calculating the MIRR to resolve the multiple IRR situation?
Q3) A firm is considering several mutually exclusive investment opportunities. The best way to choose between them is which of the following?
A)net present value (NPV)
B)payback period
C)profitability index
D)internal rate of return (IRR)
Q4) What is a safe method to use when confronted with mutually exclusive projects?
Q5) The payback rule is based on the idea that an opportunity that pays back its initial investment quickly is a worthwhile opportunity.
A)True
B)False
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Chapter 9: Fundamentals of Capital Budgeting
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Sample Questions
Q1) A decrease in the sales of a current project because of the launching of a new project is
A)an overhead expense.
B)irrelevant to the investment decision.
C)a sunk cost.
D)cannibalisation.
Q2) Which of the following best explains why it is sensible for a firm to use an accelerated depreciation schedule rather than straight-line depreciation?
A)The firm will have substantially fewer depreciation expenses later in the depreciation timeline.
B)The firm can decide over how many years an item may be depreciated, thus allowing it full control of its depreciation expenses.
C)The firm will substantially decrease its depreciation tax shield across all of the depreciation timeline.
D)The firm will receive greater benefits to its cash flow earlier in the depreciation timeline and thus increase net present value (NPV).
Q3) How do we handle interest expense when making a capital budgeting decision?
Q4) Why does the option to abandon a project have value?
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Chapter 10: Share Valuation: a Second Look
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Sample Questions
Q1) Which of the following statements is FALSE?
A)If the firm has no debt, then r<sub>wacc</sub><sub> </sub>equals the risk-free rate of return.
B)Because the firm's free cash flow is equal to the sum of the free cash flows from the firm's current and future investments, we can interpret the firm's enterprise value as the total net present value (NPV)that the firm will earn from continuing its existing projects and initiating new ones.
C)The long-run growth rate g<sub>FCF</sub> is typically based on the expected long-run growth rate of the firm's revenues.
D)When using the discounted free cash flow model, we forecast the firm's free cash flow up to some horizon, together with some terminal (continuation)value of the enterprise.
Q2) In the method of comparables, the known values of a firm's cash flows are used to estimate the unknown cash flows of a similar firm.
A)True
B)False
Q3) What additional adjustments are required to find the share price, in case we are using the discounted cash flow model?
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Page 12
Chapter 11: Risk and Return in Capital Markets
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Sample Questions
Q1) Your investment over one year yielded a capital gains yield of 5% and no dividend yield. If the sale price was $119 per share, what was the cost of the investment?
A)$113.33
B)$117.25
C)$111.67
D)$126.25
Q2) The risk premium of a share is not affected by its
A)unsystematic risk.
B)undiversifiable risk.
C)typical risk.
D)systematic risk.
Q3) Which of the following types of risk does NOT belong?
A)Unsystematic risk
B)Unique risk
C)Market risk
D)Idiosyncratic risk
Q4) Common risk is also called 'correlated risk'.
A)True
B)False
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Chapter 12: Systematic Risk and the Equity Risk Premium
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Sample Questions
Q1) Suppose you invest in 200 shares of CBA at $70 per share and 200 shares of WOW at $20 per share. If the price of CBA increases to $80 and the price of WOW decreases to $18 per share, what is the return on your portfolio?
A)8.89%
B)12.21%
C)9.76%
D)11.21%
Q2) Your estimate of the market risk premium is 8%. The risk-free rate of return is 5% and JB Hi-Fi has a beta of 1.5. According to the Capital Asset Pricing Model (CAPM), what is its expected return?
A)17.0%
B)16.3%
C)17.3%
D)16.9%
Q3) The amount of a share's risk that is diversified away:
A)depends on market risk premium.
B)depends on risk-free rate of interest.
C)is independent of the portfolio that you add it to.
D)depends on the portfolio that you add it to.
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Page 14
Chapter 13: The Cost of Capital
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Sample Questions
Q1) Sirtex Medical has $10 million of outstanding equity and $10 million of bank debt. The bank debt costs 7% per year. The estimated equity beta is 2. If the market risk premium is 6% and the risk-free rate is 5%, compute the weighted average cost of capital if the firm's tax rate is 30%.
A)10.21%
B)11.45%
C)9.56%
D)10.95%
Q2) 'Cost of equity' is the return that equity holders expect from the firm and is directly related to the firm's retained earnings.
A)True
B)False
Q3) Assume JBH has debt with a book value of $20 million, trading at 120% of par value. The firm has book equity of $20 million, and 2 million shares trading at $18 per share. What weights should JBH use in calculating its WACC?
A)40% for debt, 60% for equity
B)45% for debt, 55% for equity
C)50% for debt, 50% for equity
D)36% for debt, 64%% for equity
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Page 15
Chapter 14: Raising Capital
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Sample Questions
Q1) In a best-efforts IPO, the underwriter guarantees that all shares will be sold.
A)True
B)False
Q2) Newly listed firms tend to perform exceptionally well in the three to five years after their IPOs.
A)True
B)False
Q3) Which of the following statements regarding best efforts IPOs is FALSE?
A)If the entire issue does not sell out, the underwriter is on the hook.
B)The underwriter does not guarantee that the issue will be sold, but instead tries to sell the issue for the best possible price.
C)Often these arrangements have an all-or-none clause: either all of the shares are sold in the IPO, or the deal is called off.
D)For smaller IPOs, the underwriter commonly accepts the deal on this basis.
Q4) Equity investors in a private company usually plan to realise a return on their investment by selling their shares when that company is acquired by another firm or sold to the public in a public offering.
A)True
B)False
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Chapter 15: Debt Financing
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Sample Questions
Q1) By definition, a 'corporate bond' is any form of debt security.
A)True
B)False
Q2) Kruller AG issues a bond that is offered for sale simultaneously in Europe, the United States and Japan. Which of the following best describes this bond?
A)A domestic bond
B)A foreign bond
C)A Eurobond
D)A global bond
Q3) A bond that makes payments in a certain currency contains the risk of holding that currency and so is priced according to the yields of similar bonds in that currency.
A)True
B)False
Q4) The issuers of bonds do not seek to minimise the strength and number of covenants in a bond agreement because covenants can increase the flexibility of the company issuing the bond.
A)True
B)False
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Chapter 16: Capital Structure
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Sample Questions
Q1) What is the 'capital structure' of a firm?
Q2) It is not correct to discount the cash flows of a levered firm with the cost of equity of the unlevered firm because
A)leverage changes the unlevered cost of equity.
B)cost of debt decreases in this setting.
C)leverage decreases the risk of equity of the firm.
D)leverage increases the risk of the equity of the firm.
Q3) Differences in the magnitude of financial distress costs and volatility of cash flows across industries significantly impact the choice of leverage.
A)True
B)False
Q4) Financial managers prefer to choose the same debt level no matter which industry they operate in.
A)True B)False
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Chapter 17: Payout Policy
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Q1) When a firm reduces the number of shares to be acquired under a buyback because there are more shares tendered than were sought to be repurchased, it is known as a(n)
A)open market repurchase.
B)off-market buyback.
C)selective buyback.
D)scale-back.
Q2) With perfect capital markets, an open market repurchase increases the share price as the number of outstanding shares is decreased.
A)True
B)False
Q3) When a firm has excessive cash, managers may make use of the funds in an inefficient manner. This is also referred to as the ________ cost of retaining cash.
A)interest
B)fixed
C)special
D)agency
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Chapter 18: Financial Modelling and Pro-Forma Analysis
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Sample Questions
Q1) Based upon Ideko's Sales and Operating Cost Assumptions, what production capacity will Ideko require in 2015?
A)1 323 units
B)1 914 units
C)1 505 units
D)1 115 units
E)1 702 units
Q2) The amount of net working capital for Ideko in 2013 was closest to:
A)$35 195
B)$30 510
C)$26 200
D)$29 420
Q3) The goal of the financial manager is to maximise the value of the shareholder's stake in the firm.
A)True
B)False
Q4) The 'sustainable growth rate' assumes that the firm will raise no new debt financing. A)True B)False
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Chapter 19: Working Capital Management
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Sample Questions
Q1) Which of the following is/are direct costs associated with inventory? I. Acquisition costs
II. Carrying costs
III. Order costs
A)I and II
B)II and III
C)I only
D)I, II, and III
Q2) Your firm purchases goods from its supplier on terms of 1/10 net 30. The effective annual cost to your firm if it chooses not to take advantage of the trade discount offered and stretches the accounts payable to 45 days is closest to:
A)11.1%.
B)20.1%.
C)15.9%.
D)13.0%.
Q3) The 'discount period' is the number of days the buyer gets to take advantage of the cash discount.
A)True
B)False
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Chapter 20: Option Applications and Corporate Finance
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Q1) What effect does the volatility of the underlying asset have on the price of the option?
Q2) The ________ side of an options contract has the option to exercise, while the ________ side has an obligation to fulfil the contract.
A)long, short
B)short, long
C)short, short
D)long, long
Q3) A share is a ________ on the value of assets of the firm with an exercise price equal to the ________.
A)put option, market value of equity
B)call option, face value of debt outstanding
C)call option, market value of equity
D)put option, face value of debt outstanding
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Chapter 21: Mergers and Acquisitions
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Q1) Which of the following statements regarding 'vertical integration' is FALSE?
A)A company might not be happy with how its products are being distributed, so it might decide to take control of its distribution channels.
B)Vertically integrated companies may be large, but unlike other large corporations, since they remain focused in one industry they are easy to run.
C)The principal benefit of vertical integration is coordination. By putting two companies under central control, management can ensure that both companies work toward a common goal.
D)A company might conclude that it can enhance its product if it has direct control of the inputs required to make the product.
Q2) Consider the following equation: The term S in this equation refers to
A)the value of the synergies created by the merger.
B)new shares to pay for the target.
C)the pre-merger, or standalone, value of the acquirer.
D)the pre-merger (standalone)value of the target.
Q3) On average, when a bid is announced, the share price of the target rises.
A)True
B)False
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Page 23
Chapter 22: International Corporate Finance
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Q1) With internationally integrated capital markets, the value of an investment depends on the currency used in the analysis.
A)True
B)False
Q2) Consider the following equation: The term in this equation is
A)the appropriate cost of capital from the standpoint of an Australian investor.
B)the appropriate cost of capital from the standpoint of a foreign investor.
C)the risk-free rate for an Australian investor.
D)the risk-free rate for a foreign investor.
Q3) The one-year forward exchange rate for the British Pound is $1.70/Pound. If the one-year Australian interest rate is 5% and the one-year British interest rate is 6%, compute the implied spot exchange rate in $/Pound.
A)1.78
B)1.69
C)1.72
D)1.75
Q4) Currency options give a firm an obligation to exchange currency at a given rate.
A)True
B)False
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Chapter 23: Insurance and Risk Management
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Q1) The duration of a five-year bond with 7% annual coupons and a yield-to-maturity of 8% is closest to:
A)6.2 years
B)2.5 years
C)4.4 years
D)5.0 years
Q2) Assuming that your firm will purchase insurance, what is the minimum-size deductible that would leave your firm with an incentive to implement the new safety policies? Show your calculations.
Q3) What is the actuarially fair cost of full insurance?
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