Principles of Finance
Midterm Exam
Course Introduction
Principles of Finance introduces students to the foundational concepts and practices of financial management within organizations and markets. The course covers essential topics such as the time value of money, risk and return analysis, valuation of stocks and bonds, capital budgeting, financial statement analysis, and the principles of capital structure. Emphasis is placed on understanding how financial decisions are made by individuals and businesses to maximize value, efficiently allocate resources, and manage financial risks. Through theoretical frameworks and practical applications, students develop the skills necessary to analyze financial information and support sound financial decision-making.
Recommended Textbook
Financial Management Principles and Applications 11th Edition by Sheridan Titman
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Page 2
Chapter 1: Getting Started-Principles of Finance
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Q1) Which of the following goals of the firm is equivalent to the maximization of shareholder wealth?
A)Profit maximization
B)Risk minimization
C)Maximization of the total market value of the firm's common stock
D)None of the above
Answer: C
Q2) Difficulty in finding profitable projects is due to:
A)social responsibility.
B)competitive markets.
C)ethical dilemmas.
D)opportunity costs.
Answer: B
Q3) Shareholder wealth is measured by the market value of the firm's common stock.
A)True
B)False
Answer: True
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Chapter 2: Firms and the Financial Market
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Q1) All of the following operate as financial intermediaries EXCEPT:
A)commercial banks.
B)mutual funds.
C)insurance companies.
D)public universities.
Answer: D
Q2) Describe the tax benefits to a corporation of issuing debt rather than issuing stock. Answer: The greatest advantage to issuing debt is that the interest payments on debt are tax deductible,and that dividend payments are not tax deductible.In addition,the interest payment is a known amount,and the required return on debt is generally lower than the investor required return on equity because the cash flows to investors are more predictable for debt than they are for equity.
Q3) Each year,shareholders receive a dividend equal to the firm's net earnings divided by the number of shares of common stock.
A)True
B)False
Answer: False
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Chapter 3: Understanding Financial Statements, taxes, and Cash Flows
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Q1) Which of the following is the least liquid current asset?
A)Accruals
B)Marketable securities
C)Accounts receivable
D)Inventory
Answer: D
Q2) Corporate income statements are usually compiled on an accrual,rather than cash,basis.
A)True
B)False
Answer: True
Q3) Which of the following would NOT be included as equity in a corporate balance sheet?
A)Cash
B)Paid in capital
C)Preferred stock
D)Retained earnings
E)Common stock
Answer: A
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Chapter 4: Financial Analysis-Sizing up Firm Performance
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Sample Questions
Q1) Which of the following industries has the highest average inventory turnover ratio?
A)Retail clothing stores
B)Jewelry stores
C)Automobile dealerships
D)Supermarkets
Q2) An increase in ________ will decrease the times-interest-earned ratio.
A)the tax rate
B)gross profit
C)interest expense
D)common stock
Q3) Based on the information in Table 1,the net profit margin is:
A)4.61%.
B)2.94%.
C)1.97%.
D)5.33%.
Q4) One weakness of the times-interest-earned ratio is that it includes only the annual interest expense as a finance expense that must be paid.
A)True
B)False
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Chapter 5: Time Value of Money-The Basics
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Q1) When George Washington was president of the United States in 1797,his salary was $25,000.If you assume an annual rate of inflation of 2.5%,how much would his salary have been in 1997?
A)$1,025,000
B)$954,719
C)$2,525,548
D)$4,085,920
E)$3,489,097
Q2) If you deposit $1,000 each year in a savings account earning 4%,compounded annually,how much will you have in 10 years?
Q3) The present value of $400 to be received at the end of 10 years,if the discount rate is 5%,is:
A)$400.00.
B)$248.40.
C)$313.60.
D)$245.60.
Q4) As the discount rate increases,the present value of future cash flows increases.
A)True
B)False
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Chapter 6: The Time Value of Money-Annuities and Other Topics
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Q1) If your opportunity cost is 12%,how much will you pay for a bond that pays $100 per year forever?
Q2) What is the present value of the following perpetuities?
a.$600 discounted at 7%
b.$450 discounted at 12%
c.$1,000 discounted at 6%
d.$880 discounted at 9%
Q3) What is the present value of an investment that pays $10,000 every year at year-end for the next five years and $15,000 every year at year-end for years six through 10? The annual rate of interest for the investment is 9%.
A)$125,000.00
B)$97,250.00
C)$135,173.00
D)$76,827.50
Q4) To repay a $2,000 loan from your bank,you promise to make equal payments every six months for the next five years totaling $3,116.20.What annual rate of interest will you be paying?
Q5) If you have an opportunity cost of 10%,how much must you invest each year to have $4,000 accumulated in 10 years?
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Chapter 7: An Introduction to Risk and Return-History of
Financial Market Returns
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Q1) The expected rate of return is the sum of each possible return times it likelihood of occurrence.
A)True
B)False
Q2) The expected rate of return is the weighted average of the possible returns for an investment.
A)True
B)False
Q3) What is the standard deviation of an investment that has the following expected scenario? 18% probability of a recession,2.0% return;65% probability of a moderate economy,9.5% return;17% probability of a strong economy,14.2% return.
A)3.68%
B)1.23%
C)8.47%
D)6.66%
Q4) The holding period return is always positive. A)True
B)False
Q5) Why do the arithmetic average return and the geometric return differ?
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Chapter 8: Risk and Return-Capital Market Theory
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Sample Questions
Q1) The beta of ABC Co.stock is the slope of:
A)the security market line.
B)the characteristic line for a plot of returns on the S&P 500 versus returns on short-term Treasury bills.
C)the arbitrage pricing line.
D)the characteristic line for a plot of ABC Co.returns against the returns of the market portfolio for the same period.
Q2) Beta is a statistical measure of:
A)hyperbolic.
B)total risk.
C)the standard deviation.
D)the relationship between an investment's returns and the market return.
Q3) A security with a beta of zero has a required rate of return equal to the overall market rate of return.
A)True
B)False
Q4) Beta is a measure of systematic risk.
A)True
B)False
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Chapter 9: Debt Valuation and Interest Rates
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Q1) Beta,Inc.has bonds outstanding that mature in 10 years.The bonds have $1,000 par value and pay interest annually at a rate of 10%,which is also the current required rate of return on the bonds.The bonds' duration is:
A)10.00.
B)6.76.
C)5.
D)unable to be determined based on the information given.
Q2) Junk bonds:
A)are high yield bonds.
B)have higher default risk.
C)were used to finance "fallen angels."
D)all of the above.
Q3) A bond has a coupon rate of 10% and yield to maturity of 12%.Which of the following must be true?
A)The bond is selling at a discount.
B)The bond is selling at a premium.
C)The bond's current yield is less than the coupon rate.
D)Both A and C.
E)Both B and C.
Q4) What elements determine what the yield to maturity will be for a bond?
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Chapter 10: Stock Valuation
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Q1) Determine the rate of return on a $25 common stock that pays a dividend of $2.50 in year 1 and grows at a rate of 5%.
Q2) Tri State Pickle Company preferred stock pays a perpetual annual dividend of 2 1/2% of its par value.Par value of TSP preferred stock is $100 per share.If investors' required rate of return on this stock is 15%,what is the value of per share?
A)$37.50
B)$15.00
C)$16.67
D)$6.00
Q3) You are considering the purchase of common stock that just paid a dividend of $6.50 per share.Security analysts agree with top management in projecting steady growth of 12% in dividends and earnings over the foreseeable future.Your required rate of return for stocks of this type is 18%.How much should you expect to pay for this stock?
A)$86
B)$94
C)$108
D)$121
E)$242
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Chapter 11: Investment Decision Criteria
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Sample Questions
Q1) Discounted payback for Project Y is:
A)three years.
B)3.14 years.
C)four years.
D)two years.
Q2) A new forklift under consideration by Home Warehouse requires an initial investment of $100,000 and produces annual cash flows of $50,000,$40,000,and $30,000.Which of the following will not change if the required rate of return is increased from 10% to 12%.
A)The net present value.
B)The internal rate of return.
C)The profitability index.
D)The modified internal rate of return.
Q3) One of the disadvantages of the payback method is that it ignores cash flows beyond the payback period.
A)True
B)False
Q4) The higher the discount rate,the greater the importance of the early cash flows.
A)True
B)False
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Chapter 12: Analyzing Project Cash Flows
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Q1) In 2010,Sunny Electronics expects to sell 100,000 3-D television sets for an average price of $1,000.Expected production costs are $600 per unit.In 2011,volume is expected to increase by 10%,while inflation will increase both the sales price and the cost per unit by 3%.In real dollars,expected gross profit for 2011 is:
A)$40 million.
B)$45.32 million.
C)$48.2 0 million.
D)$50 million.
Q2) Which of the following expenses should be included when estimating cash flows for investment projects?
A)Interest expense related to financing a project
B)Sunk costs
C)Required principal payments related to financing a project
D)Opportunity costs
Q3) Sunk costs are a type of incremental cash flow that should be included in all capital-budgeting decisions.
A)True
B)False
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Chapter 13: Risk Analysis and Project Evaluation
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Q1) What is the expected NPV of the project with the option to expand if the probability of modest success is revised to 70% and great success to 30%?
A)$310,000
B)$155,00 (no change)
C)$213,000
D)$97,000
Q2) In capital-budgeting decisions,simulation analysis gives a probability distribution only for cash flows.
A)True
B)False
Q3) Which of the following costs is NOT covered in an accounting break-even analysis?
A)Shareholders expected rate of return
B)Variable production costs
C)Interest expense
D)Depreciation expense
Q4) Most of the variables used in forecasting cash flows are known with certainty.
A)True
B)False
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Chapter 14: The Cost of Capital
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Q1) J & B,Inc.has $5 million of debt outstanding with a coupon rate of 12%.Currently,the yield to maturity on these bonds is 14%.If the firm's tax rate is 40%,what is the after-tax cost of debt to J & B?
A)12.0%
B)14.0%
C)8.4%
D)5.6%
Q2) Jen and Barry's Ice Cream needs $20 million in new capital to expand its production facilities.It will use 40% debt and 60% equity.The company's after-tax cost of debt is 5% and the cost of equity is 12.5%.Flotation costs will be 3% for debt and 9% for equity.What rate should be used to discount the cash flows from the expansion project?
A)6.6%
B)6.0%
C)9.5%
D)16.1%
Q3) Explain why the investor's required return on debt is not equal to the corporation's cost of debt,and explain why the investor's required return on equity is not equal to the corporation's cost of equity.
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Chapter 15: Capital Structure Policy
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Q1) Financial structure includes long-term and short-term sources of funds.
A)True
B)False
Q2) The firm's optimal capital structure is the mix of financing sources that:
A)minimizes the risk of financial distress.
B)maximizes after-tax earnings.
C)maximizes the total value of the firm's debt and equity.
D)all of the above.
Q3) A company that earns a rate of return on its investments lower than the interest rate on its debt is said to have:
A)unfavorable financial leverage.
B)a sub-optimal capital structure.
C)favorable financial leverage.
D)negative financial leverage.
Q4) The capital structure that minimizes the weighted average cost of capital will also:
A)maximize EPS for any given level of EBIT.
B)minimize the value of the firm.
C)minimizes bankruptcy costs.
D)maximize the price per share of common stock.
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Chapter 16: Dividend Policy
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Q1) Unexpected dividend changes would cause investors to reassess their perceptions about a firm's stock.
A)True
B)False
Q2) According to the residual theory of dividends:
A)dividends are to be paid out only after investment financing needs have been met.
B)earnings remaining after payment of preferred stock dividends should be paid to common stockholders.
C)dividend payments are a constant percentage of EPS.
D)a dividend is the residual above the payout ratio.
Q3) Which of the following is most likely to have a negative impact on stock price?
A)Omitting a stock repurchase offer
B)Failure to increase the dividend at the same rate as previous years
C)Cutting the dividend per share in dollar terms
D)Reducing the dividend payout ratio
Q4) By virtue of its nature,dividend policy is inherently a wealth-creating activity for the firm's owners.
A)True
B)False
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Chapter 17: Financial Forecasting and Planning
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Q1) When forecasting statements,assets always increase proportionately to sales regardless of capacity.
A)True
B)False
Q2) Short-term financial planning results in:
A)a cash budget.
B)pro forma financial statements.
C)a sales forecast for the next 1 to 3 years.
D)a general narrative detailing near-term scenarios.
Q3) As of December 31,Budget,Inc.had a cash balance of $50,000.December sales were $150,000 and are expected to be $100,000 in January.20% of sales in any month are cash sales,and 80% of sales are collected during the following month.In January,Budget is expected to have total cash disbursements of $120,000,and Budget requires a minimum cash balance of $50,000.Budget's expected cash receipts for January are:
A)$80,000.
B)$100,000.
C)$110,000.
D)$140,000.
Q4) What is meant by spontaneous financing?
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Chapter 18: Working Capital Management
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Sample Questions
Q1) The Stoney River Textiles Company will borrow $50 million for 180 days from Merrimac Bank.The bank will charge Stoney River 4.5 % on a discounted basis.What is the annual percentage rate (APR)to Stoney River (round to the nearest .1 percent)?
A)2.25%
B)2.36%
C)4.71%
D)4.5%
Q2) A negotiable certificate of deposit (CD)is a marketable receipt for funds deposited in a bank.
A)True B)False
Q3) The primary advantage that factoring accounts receivable provides is:
A)the flexibility it gives to the borrower.
B)that the financial institution bears the risk of collection.
C)the low cost as compared with other sources of short-term financing.
D)that the financial institution services the accounts.
Q4) Lines of credit involve fixed rates of interest.
A)True B)False
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Chapter 19: International Business Finance
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Sample Questions
Q1) After the U.S.dollar,the most widely traded currency is:
A)the Saudi riyal.
B)the euro.
C)the Swiss franc.
D)the Canadian dollar.
Q2) The asked rate is the price a customer will receive from a foreign currency trader when selling a foreign currency.
A)True
B)False
Q3) The British pound to Swiss franc exchange rate is:
A)1.64 British pounds to the Swiss franc.
B)1.5663 British pounds to the Swiss franc.
C).6097 British pounds to the Swiss franc.
D).9772 British pounds to the Swiss franc.
Q4) One reason for international investment is that:
A)the economies of many countries are growing faster than the U.S.
B)price-earnings (P/E)ratios are higher in foreign countries.
C)doing business in foreign countries is simpler than in the U.S.
D)raw materials are typically cheaper in other countries than in the U.S.
Q5) What is the role of arbitrage in the foreign exchange markets?
Page 21
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Chapter 20: Corporate Risk Management
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Questions
Q1) The greater a firm's dividend payout,the ________ likely it is that the stock's price will rise above the exercise price.
A)less
B)more
C)dividends have no effect on the stock's future price
D)the answer depends on the risk-free rate.
Q2) A futures contract is a specialized form of a forward contract distinguished by an organized exchange which encourages confidence in the futures market by allowing for the effective regulation of trading.
A)True
B)False
Q3) What are the differences between forward contracts and futures contracts? What are some advantages and disadvantages of each.
Q4) A(n)________ can be exercised only on the expiration date.
A)European option
B)at-the-money option
C)short option
D)American option
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