Series 7, Unit 13

Which of the following is the most stringent test of liquidity? Assets / current liabilities. (Cash + cash equivalents) / current liabilities. (Current assets - inventory) / current liabilities. Current assets / current liabilities.

(Cash + cash equivalents) / current liabilities. Of the answers given, the cash assets ratio is the most stringent because it excludes inventories and accounts receivable. Reference: 14.7.2 in the License Exam Manual

Identify the basic balance sheet equation. Assets = liabilities − shareholders' equity Assets = liabilities + shareholders' equity Assets = shareholders' equity − liabilities Assets = net worth

Assets = liabilities + shareholders' equity Total assets equal total liabilities plus total shareholders' equity. Reference: 14.6.1.2 in the License Exam Manual

If the assets of a company did not change, but stockholders' equity declined, it follows that: liabilities declined. retained earnings increased. capital surplus decreased. liabilities increased.

liabilities increased. Stockholders' equity is assets minus liabilities. If assets stay the same, then an increase in liabilities will cause a decline in equity. Reference: 14.6.1.3 in the License Exam Manual

All of the following will affect the working capital of a corporation EXCEPT: payment of a cash dividend. declaration of a cash dividend. an increase in assets. a decrease in liabilities.

payment of a cash dividend. Working capital is defined as current assets minus current liabilities. Payment of a cash dividend will reduce current assets (cash) and current liabilities (dividend payable) by the same amount, leaving working capital unchanged. Reference: 14.6.1.3.5 in the License Exam Manual

A technical analyst would be most interested in which of the following? Quick ratios. Working capital. 200-day moving averages. PE ratios.

200-day moving averages. Technical analysts try to predict the market by examining price and volume trends. They expect the market will act in the future as it has in the past. Technical analysts are not interested in the fundamental aspects of a company, such as its financial statement ratios. Reference: 14.4.2 in the License Exam Manual

A new corporation with no existing products or services has a patent pending with the U.S. government. Which of the following describes this type of company? Growth Value Asset allocation Special situation

Special situation A company with a patent pending is known as one in a special situation and should be valued accordingly. Reference: 14.5.1.4 in the License Exam Manual

Growth companies tend to have all of the following characteristics EXCEPT: low dividend payout ratios. low PE ratios. high earnings retention ratio. potential investment return from capital gains rather than income.

low PE ratios. Growth companies have high PE ratios and a low dividend payout ratio because they retain most if not all of their earnings. Investors anticipating fast growth bid up prices so PE ratios tend to be high. Growth companies retain most of their earnings to fund future growth. Investors select growth companies for capital gain potential, not for investment income. Reference: 14.7.3.6 in the License Exam Manual

Buying stocks with high PE ratios normally reflects which of the following investment styles? Growth. Special situations. Turnaround. Value.

Growth. The purchase of stocks with high PE ratios represents a growth investment style. Growth-oriented investors will pay for high PE ratios. Value investment style is associated with the purchase of low PE stocks or stocks trading below their intrinsic value. Reference: 14.5.1.3 in the License Exam Manual

A fundamental analyst would be interested in all of the following EXCEPT: innovations within the automotive industry. statistics of the U.S. Department of Commerce on disposable income. corporate annual reports. daily trading volumes on the NYSE.

daily trading volumes on the NYSE. Trading volume interests the technical analyst, who looks at fluctuations in the market, not at fundamental economic values. Reference: 14.4.1.1 in the License Exam Manual

Your customer asks you to help evaluate several companies she is considering adding to her portfolio. One of the tools you are using is the asset coverage ratio to assess if the company can cover the cost of new inventory using only its monetary assets if the company has raised enough debt capital to purchase new tangible assets such as buildings and equipment the value of the assets the company holds, both tangible and monetary, in relation to its debt obligations if the company has enough in liquid assets only to cover its debt obligations

the value of the assets the company holds, both tangible and monetary, in relation to its debt obligations The asset coverage ratio measures the tangible and monetary assets of a company in relation to its outstanding debt obligations. It is but one tool that can be utilized to assess the overall strength or weakness of a company's financial health. Reference: 14.7.2.1.1 in the License Exam Manual

Which of the following are methods used to manage the economy? I. Modern portfolio theory. II. Monetary policy. III. Fiscal policy. IV. Efficient market theory. II and III. III and IV. I and IV. I and III.

II and III. Fiscal and monetary policies are two methods used to manage the nation's economic activity. Reference: 14.2.1 in the License Exam Manual

Using technical analysis to value securities, which of the following items is NOT of importance? A prevailing market trend in response to shifts in supply and demand The breadth of market volume The amount of a company's past earnings Resistance and support levels

The amount of a company's past earnings The amount of a company's past earnings is a factor used in the fundamental analysis of securities, but not technical analysis. Technicians rely on market trends and supply and demand factors, as well as chart indications such as resistance and support levels. Reference: 14.4 in the License Exam Manual

A customer buys XYZ stock at $60 per share. The stock is currently trading at a 10:1 price-to-earnings (PE) ratio. The firm declares a 3:1 stock split. What will the PE ratio be after the split if earnings remain unchanged? 3:1. 12:1. 5:1. 10:1.

10:1 If earnings remain unchanged, the PE ratio remains the same, 10:1. Earnings are currently $6 per share ($60 / 10). After a 3:1 split, each share will be valued at $20. If earnings are unchanged, the same $6 of earnings is now applicable to 3 shares or $2 per share. Price divided by earnings equals PE ratio ($20 / $2 = 10:1 PE ratio). Reference: 14.6.2.6 in the License Exam Manual

Which of the following capital structures would be considered the most highly leveraged? Equal values of common stock and bonds. A large value of common stock and a small value of bonds. A large value of bonds and a small value of common stock. Common stock only.

A large value of bonds and a small value of common stock. Leverage is using other people's money to enhance equity value. In this case, borrowing at a fixed-rate of payment enhances cash flow, giving the company extra money to invest in its operations. Just as individuals, a company has to be careful not to borrow more than they can afford. Reference: 14.6.2.8 in the License Exam Manual

Which of the following would you most likely consider to be characteristics of a growth stock? High PE and high dividend yield Low PE and low dividend yield Low PE and high dividend yield High PE and low dividend yield

High PE and low dividend yield Growth stocks generally have high PE ratios and low (or no) dividends. Value stocks normally have low PE ratios with higher dividend payouts. Reference: 14.5.1.3 in the License Exam Manual

An analyst comparing revenues with expenses is most likely analyzing: cash flow. capitalization. working capital. liquidity.

cash flow. The analyst is most likely measuring the income statement for cash flow (money coming in against money going out). Working capital analysis would involve examining the balance sheet's current assets and current liability entries, not the income statement. Capitalization analysis involves examination of long-term debt and stock issues. Liquidity analysis involves examining current assets and liabilities from the balance sheet. Reference: 14.6.3 in the License Exam Manual

All of the following appear on a corporation's balance sheet as fixed assets EXCEPT: real estate. computer equipment. furniture. inventory.

inventory. Inventory is considered a current asset, not a fixed asset, because the company expects to convert its inventory into cash within a short period of time. The other choices are fixed assets and cannot be liquidated easily. Reference: 14.6.1.2.1 in the License Exam Manual

Which of the following would be considered in the fundamental analysis of a security? I. Support and resistance levels II. Trading volumes III. Liquidity ratios IV. Historical earnings trends I and IV I and II III and IV II and III

III and IV Fundamental analysts are concerned with information relating to the economy, industries, and individual companies. A company's liquidity ratios and past earning trends fall within these areas of concern. Concerns about the stock price and volume of trading would be of primary interest to a technical analyst. Reference: 14.5 in the License Exam Manual

The theory that the small investor is usually wrong is known as the Small Investor Theory the Dow Theory none of these the Odd-Lot Theory

the Odd-Lot Theory The Odd-Lot Theory is based on the belief that the smaller investor (who normally buys in odd lots) is usually wrong. If odd-lot purchase volume increases, it indicates a market decline is near. If odd-lot sale volume increases, it indicates that market prices will appreciate. Reference: 14.4.3.2 in the License Exam Manual

An inverted Head and Shoulders Formation would mean which of the following to a chartist? A reversal of an uptrend. A bull market. A reversal of a downtrend. A bear market.

A reversal of a downtrend. Head and Shoulders Formations indicate the reversal of market trends to chartists. An inverted formation would forecast the reversal of a downtrend. A Head and Shoulder's Top Formation would forecast the reversal of an uptrend. Reference: 14.4.2.1.2 in the License Exam Manual

KPT, Inc. is preparing to report its net income for the past year. An increase in which of the following causes a decrease in the reported net income? I. Tax rate. II. Cash dividend. III. Allowance for bad debts. IV. Retained earnings. I and III. II and III. II and IV. I and II.

I and III. Higher taxes mean less net income. The allowance for bad debts is an expense item; increasing it lowers operating income. Dividends are paid out of retained earnings which have no effect on the net income the company reports. Reference: 14.6.1.2.2 in the License Exam Manual

Which of the following may be affected when a company declares a cash dividend? I. Shareholders' equity. II. Total assets. III. Total liabilities. IV. Current assets. I and III. II and IV. III and IV. I and II.

I and III. When a company declares a cash dividend, it will reduce retained earnings (part of shareholders' equity) and increase current liabilities (dividends payable), which will increase total liabilities. Assets are not affected until the cash is paid out several weeks later. Reference: 14.6.2.5 in the License Exam Manual

A technical analyst is concerned with all of the following trends EXCEPT: changes in the DJIA. support levels. PE ratios. reversals.

PE ratios. Technical analysts are more interested in forecasting market trends and securities prices than in studying individual corporations. Therefore, they are concerned with market prices, trading volumes, changes in the Dow Jones Industrial Average, reversals, support and resistance levels, advance/decline lines, short interest, and many other factors that might help them time buying and selling decisions. Fundamental analysts, on the other hand, concentrate on a stock's intrinsic quality and are concerned with PE ratios and earnings per share. Reference: 14.4 in the License Exam Manual

A small retail investor wants to invest in a growth development company. Which of the following should be of the most concern regarding suitability? That these companies allow for the general investing public to participate That the capital being provided is going to startup companies Whether the growth development company is traded or nontraded Whether or not the SEC has approved the growth development company

Whether the growth development company is traded or nontraded Growth development companies, also known as business development companies (BDCs), allow smaller, nonaccredited investors the opportunity to invest in startup ventures. Providing startup capital to companies and allowing smaller investors the opportunity to participate are simply characteristics of BDCs. Of course, the SEC does not approve or disapprove of any investment so this would not be a suitability concern. However, from a suitability perspective, a small retail investor should be most concerned with liquidity and being able to divest easily if they need to. In this light, whether the company is traded or nontraded would be very important as nontraded development companies are viewed as being illiquid and the opportunity to exit the investment may be limited and come at a discount to current market value. Reference: 14.6.2.9.1 in the License Exam Manual

The working capital of a corporation includes all of the following EXCEPT: convertible bonds. cash. accounts receivable. marketable securities of other companies.

convertible bonds. The working capital of a corporation is equal to its current assets minus its current liabilities. A current liability is payable within 12 months. Because convertible bonds are long-term (not short-term) liabilities, they are not included as working capital. Reference: 14.6.1.3.5 in the License Exam Manual

All of the following ratios are measures of the liquidity of a corporation EXCEPT: quick ratio. debt/equity ratio. acid-test ratio. current ratio.

debt/equity ratio. Liquidity ratios measure a firm's ability to meet its current financial obligations and include the current ratio and acid-test (quick) ratio. However, the debt/equity ratio is a capitalization ratio and measures the amount of leverage compared to equity in a company's overall capital structure. Reference: 14.7.2 in the License Exam Manual

While looking at a chart for QRS common stock, a technical trader wants to have an order in position in the event that QRS moves higher and breaks out on the chart. A buy stop order would be placed: just below the support level. just above the resistance level. just below the resistance level. just above the support level.

just above the resistance level. To take advantage of a stock moving higher and breaking out on a chart, a technical trader would place a buy stop order just above the resistance level. Technical traders believe that if a stock breaks the resistance level, it will move to and trade within a higher price range. Using a buy stop order placed just above the resistance level ensures that the purchase is not made until the stock has broken through the resistance. Reference: 14.4.2.2 in the License Exam Manual

The dividend payout ratio of common stock is found by dividing the annual dividend per share by: the market price. the earnings per share. the capitalization per share. the book value.

the earnings per share. The key to the question is ratio, which in this case is the relationship between dividends per share and their source of earnings per share. Reference: 14.7.3.5 in the License Exam Manual

A fundamental analyst would be concerned with all of the following EXCEPT capitalization trading volumes inflation rates historical earnings trends

trading volumes A fundamental analyst is concerned with the economic climate, the inflation rate, how an industry is performing, a company's historical earnings trends, how it is capitalized, and its product lines, management, and balance sheet ratios. A technical analyst is concerned with trading volumes or market trends and prices. Reference: 14.5 in the License Exam Manual