Business Finance

  1. A key difference between replacement and expansion project analyses is that with replacement, the incremental cash flows are measured as the net difference between projected cash flows from the current productive assets and cash flows of the proposed new productive assets.

True / False

 

  1. The weighted average cost of capital increases if the total funds required call for an amount of equity in excess of what can be obtained as retained earnings.

True / False

 

  1. 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 it will have a beta which is greater than 1.0.

True / False

 

  1. Other things held constant, an increase in financial leverage will increase a firm’s market risk as measured by its beta coefficient.

True / False

 

  1. The post-audit is a simple process in which actual results are compared to forecasted results and any discrepancy indicates a change in factors that are completely under management’s control.

True / False

 

  1. Short-term financing might be riskier than long-term financing because, during periods of tight credit, the firm might not be able to rollover (renew) its debt.

True / False

  1. Effective capital budgeting can improve the timing of asset acquisition and the quality of assets purchased, thereby providing an opportunity to purchase and install assets before they are needed.

True / False

 

  1. Since the degree of total leverage is equal to the degree of operating leverage times the degree of financial leverage, the degree of total leverage must always be greater than or equal to positive 1.0.

True / False

 

  1. If the information content, or signaling, hypothesis is correct, then changes in dividend policy can be important with respect to firm value and capital costs.

True / False

 

  1. A just-in-time system of inventory control requires that manufacturers coordinate production with suppliers so that raw materials or components arrive just as they are needed in the production process. The main objective of such a system is to reduce carrying costs.

True / False

 

  1. The best and most comprehensive picture of a firm’s liquidity position is obtained by examining its cash budget.

True / False

  1. A firm’s goal should be to lengthen the cash conversion cycle since shorter cash conversion cycles leads firms to increase their dependence on costly external financing.

True / False

 

  1. Conflicts between two mutually exclusive projects, where the NPV method chooses one project but the IRR method chooses the other, should generally be resolved in favor of the project with the higher NPV.

True / False

 

  1. The primary goal of inventory management is to provide sufficient incentives to ensure that the firm never suffers a stock-out (i.e., runs out of an inventory item).

True / False

 

  1. The ex-dividend date is the date on which a firm actually mails (funds) dividends.

True / False

 

  1. The optimal capital structure is that capital structure that strikes a balance between risk and return such that the firm’s stock price is maximized.

True / False

 

  1. The benefits of a sound cash management program are not sensitive to interest rates.

True / False

  1. Although the exact relationship between a firm’s degree of financial leverage and its beta is difficult to estimate, it has been shown both theoretically and empirically that a firm’s beta increases with its degree of financial leverage.

True / False

 

  1. Inventory management is largely self-contained; that is, only minimum coordination among other departments such as sales, purchasing, and production is required for successful inventory management.

True / False

 

  1. On a 2-for-1 stock split, the shares outstanding are doubled, and the stock’s par value is halved.

True / False

 

  1. Superior analytical techniques, such as NPV, used in combination with adjustments to the average required rate of return, can always overcome the problem of poor cash flow estimation in decision making.

True / False

 

  1. Synchronization of cash flows is an important cash management technique and effective synchronization can actually increase a firm’s profitability.

True / False

 

  1. If a firm is considering purchasing an asset whose beta is greater than the current beta of the firm, it should use a discount rate (rate of return) less than the firm’s average required rate of return to evaluate the possible investment.

True / False

  1. Managers, on average, do not raise dividends unless they believe future earnings will be able to sustain the higher level dividends.

True / False

 

  1. (2 Points) The present value of the expected net cash inflows for a project will most likely exceed the present value of the expected net profit after tax for the same project because
a.Income is reduced by taxes paid, but cash flow is not.
b.There is a greater probability of realizing the projected cash flow than the forecasted income.
c.Income is reduced by dividends paid, but cash flow is not.
d.Income is reduced by depreciation charges, but cash flow is not.
e.Cash flow reflects any change in net working capital, but sales do not.

 

  1. (2 Points) The average length of time required to convert raw materials into finished products and sell that produce is called the ___________.
a.cash conversion cycle
b.inventory conversion period
c.receivables collection period
d.payables deferral period
e.days sales outstanding
  1. Which of the following influences dividend policy?
a.Constraints on dividend payments such as debt contract restrictions (covenants)
b.Investment opportunities
c.Alternate sources of capital
d.Cash availability
e.All of these exert an influence on dividend policy
  1. A report showing how long accounts receivable have been outstanding is called what?
a.Time line.
b.Preauthorized debit system.
c.Aging schedule.
d.Cash discount.
e.Credit period.

 

  1. (2 Points) If a firm is operating at its optimal capital structure, then its weighted average cost of capital must be __________ and its value must be __________.
a.maximized; maximized
b.minimized; minimized
c.maximized; minimized
d.minimized; maximized
  

 

  1. (2 Points) Which of the following is not one of the four primary factors that influence capital structure decisions?
a.The firm’s business risk.
b.The firm’s tax position.
c.The firm’s financial flexibility.
d.The firm’s inventory valuation method.
e.The firm’s managerial attitude.
  1. (2 Points) Which of the following statements related to Financial Statement Forecasting is correct?
a.One of the key steps in the development of pro forma financial statements is to identify those assets and liabilities which increase spontaneously with net income.
b.The first, and most critical, step in constructing a set of pro forma financial statements is establishing the sales forecast.
c.Pro forma financial statements as discussed in the text are used primarily to assess a firm’s historical performance.
d.All else equal, if a firm operates at full capacity, the greater its payout ratio, the less additional funds that will be needed for a particular growth in sales.
e.The projected balance sheet forecasting method produces accurate results when fixed assets are lumpy and when economies of scale are present.

 

  1. Analyzing days sales outstanding (DSO) and the aging schedule are two common methods for monitoring receivables. However, they can provide erroneous signals to credit managers when
a.Customers’ payments patterns are changing.
b.Sales fluctuate seasonally.
c.Some customers take the discount and others do not.
d.Sales are relatively constant, either seasonally or cyclically.
e.None of the above.
  1. (2 Points) Which of the following statements related to Capital Budgeting Techniques is correct?
a.Because discounted payback takes account of the required rate of return, a project’s discounted payback is normally shorter than its regular payback.
b.The NPV and IRR methods use the same basic equation, but in the NPV method the discount rate is specified and the equation is solved for NPV, while in the IRR method the NPV is set equal to zero and the discount rate is found.
c.If the required rate of return is less than the crossover rate for two mutually exclusive projects’ NPV profiles, a NPV/IRR conflict will not occur.
d.If you are choosing between two projects which have the same life, and if their NPV profiles cross, then the smaller project will probably be the one with the steeper NPV profile.
e.If the required rate of return is relatively high, this will favor larger, longer-term projects over smaller, shorter-term alternatives because it is good to earn high rates on larger amounts over longer periods.

 

 

 

  1. (8 Points) Trident Food Corporation generated the following income statement for the most recent fiscal year, which ended December 31, 2018:

 

Sales revenues$150,000
Variable cost of sales(112,500)
Gross profit37,500
Fixed operating costs  (24,000)
Net operating income (EBIT)13,500
Interest  (10,000)
Earnings before taxes3,500
Taxes (40%)    (1,400)
Net income2,100

Each item of inventory Trident Foods produces has a selling price of $20.

What is the degree of total leverage for Trident Foods?

a.42.86
b.10.71
c.14.43
d.11.86
e.6.43

 

 

 

  1. (2 Points) The firm’s weighted average cost of capital (WACC) is
a.set by the board of directors of the firm because it is the benchmark they use to evaluate upper management.
b.regulated by the Internal Revenue Service (IRS) because tax-deductible debt is included in the computation.
c.determined by the financial markets because investors (including creditors) provide the funds used by firms and these funds have costs, which are the returns demanded by investors.
d.the same as the firm’s internal rate of return (IRR).
e.the total net present value (NPV) of all the capital budgeting projects in which the firm invests in any year.

 

 

  1. (4 Points) Allyson, who is the CFO of Mundane Minerals & Mining (MMM), is trying to decide whether to issue debt or common stock to finance the capital budgeting projects she has evaluated as acceptable (that is, the projects have positive net present values, NPV). Because MMM is a relatively small company, Allyson believes that the type of capital she uses to finance the projects will send a signal to investors. As a result, which of the following actions would you recommend Allyson take?
a.Issue equity, because investing in positive NPV projects is not in the best interests of the firm, and the existing stockholders will want to share such “bad news” with new stockholders.
b.Issue equity so as to dilute ownership and share the increase in wealth that results from investing in positive NPV projects with new stockholders.
c.Issue debt, because debt is riskier than common stock, thus the value of existing stockholders’ stock will increase more than if new equity is issued.
d.Issue debt, because investing in positive NPV projects increases the value of the firm, and the existing stockholders probably prefer not to share such good fortune with new stockholders.
e.Investors do not care which source of funds the firm uses as long as the funds are invested in positive NPV projects; therefore, it shouldn’t matter which type of capital is used.

 

 

  1. (8 Points) You work for the CEO of a new company that plans to manufacture and sell a new type of laptop computer. The issue now is how to finance the company, with only equity or with a mix of debt and equity. Expected operating income is $690,000. Other data for the firm are shown below. How much higher or lower will the firm’s expected EPS be if it uses some debt rather than only equity, i.e., what is EPSL – EPSU?
 0% Debt, U 60% Debt, L
Oper. income (EBIT)$690,000 $690,000
Required investment$2,500,000 $2,500,000
% Debt0.0% 60.0%
$ of Debt$0.00 $1,500,000
$ of Common equity$2,500,000 $1,000,000
Shares issued, $10/share250,000 100,000
Interest rateNA 10.00%
Tax rate35% 35%

 a.$1.29
 b.$1.97
 c.$2.23
 d.$1.72
 e.$1.63
  1. (4 Points) The cash conversion cycle is the length of time from the __________ raw materials to manufacture a product until the __________ of accounts receivable associated with the sale of the product.
a.ordering of; creation
b.receipt of; collection
c.payment for; creation
d.payment for; collection
e.none of the above

 

  1. Which of the following is not a common type of short term financing?
a.Commercial paper.
b.Accruals.
c.Trade credit.
d.Corporate bonds.
e.Bank loans.

 

  

 

 

 

  1. (12 Points) Compare and contrast the different dividend theories. Define and discuss the factors/constraints that firms must consider in the selection and implementation of their dividend policy. Also, talk about the mechanics of when a dividend is declared and paid, and its potential impact on value.  Finally, why a firm would enter into a stock repurchase program as another way to increase value to shareholders.

 

  1. (12 Points) Define and discuss, including their relative strengths and weaknesses, of the NPV, IRR and Payback methods of evaluating capital projects.

 

 

  1. (12 Points) Define (1) what is the Cash Conversion Cycle and (2) how the Cash Conversion Cycle is calculated. Also, define how it is calculated, by component. Identify ways, by component, that an organization can improve its Cash Conversion Cycle.

 

 
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