Fin 370 Exam 1
Financial leverage: A. increases as the net working capital increases. B. is equal to the market value of a firm divided by the firm's book value C. is inversely related to the level of debt. D. is the ratio of a firm's revenues to its fixed expenses. E. increases the potential return to the shareholders.
increases the potential return to the shareholders.
Quick ratio
(Cash+ Short-term investments+ A/R)/ Current liabilites
Return on invested capital
(EBIT(1 - Tax Rate)) / (Book Value of Equity + Net Debt)
Converting APR to an EAR
1+EAR= (1+ APR/K)^K
You want to save $200 a month for the next 24 years and hope to earn an average rate of return of 11 percent. How much more will you have at the end of the 24 years if you invest your money at the beginning of each month rather than the end of each month?
1. FV At END PMT= 200 N= 24*12= 288 I= 11%/12= 0.9166% FV=?----> 280,232.3449 2. FV at BEG set calc to BEG mode PMT= 200 N= 288 I= 0.9166% FV=?---> 282,800.9545 3. Difference: FVBEG- FVEND =282,800.9545-280,232.3449= 2,568.6096
You are a shareholder in a C corporation. The corporation earns $1.78 per share before taxes. Once it has paid taxes, it will distribute the rest of its earnings to you as a dividend. The corporate tax rate is 38%, and your personal tax rate on (both dividend and non-dividend) income is 20%. How much is left for you after all taxes are paid
1.78*0.38= 0.6764 1.78-0.6764= 1.1036 1.1036*0.20= 0.22072 1.1036-0.22072= 0.88
Boulderado has come up with a new composite snowboard. Development will take Boulderado four years and cost $250,000 per year, with the first of the four equal investments payable today upon acceptance of the project. Once in production the snowboard is expected to produce annual cash flows of $200,000 each year for 10 years. Boulderado's discount rate is 10%. What is the IRR
11% CF0= -250,000 CF1= -250,000 FO1= 3 CF2= 200,000 FO2= 10 IRR= 11
The Men's Warehouse charges 1.6 percent interest per month. What effective annual rate of interest are its credit customers actually paying? A. 18.00 percent B.18.92 percent C. 19.26 percent D. 19.31 percent E. 20.98 percent
20.98 1.6*12= 19.20% **** set compounding periods to 12 EAR= EFF%= 20.98
True Blue Transport has a current stock price of $27. For the past year, the company had net income of $2,187,400, total equity of $13,892,300, sales of $26,511,000, and 2.5 million shares outstanding. What is the market-to-book ratio? A. 3.54 B. 3.81 C. 3.99 D. 4.27 E. 4.86
4.86. Total equity/ Shares outstanding 13,892,300/ 2,500,000= 5.55692 M-B ratio: 27/ 5.55692= 4.85
A bond yielded a real rate of return of 3.87 percent for a time period when the inflation rate was 3.75 percent. What was the actual nominal rate of return? A. 87.58 percent B. 7.62 percent C. 7.77 percent D. 8.28 percent E. .36 percent
7.77% Real rate of return= (1+R)/(1+h)-1 (1+Real Rate)= (1+R)/ (1+h) 1+R= (1+Real rate)(1+h) R= (1+ Real Rate)(1+h) -1 =(1.0387)(1.0375)-1 = 7.765%
A bond has a yield to maturity of 9.38 percent, a 7.5 percent annual coupon, a $1,000 face value, and a maturity date 21 years from today. What is the current yield? A. 7.91 percent B. 8.47 percent C. 9.04 percent D. 9.38 percent E. 9.46 percent
9.04% FV= 1,000 Pv=? I= 9.38% PMT= 0.075*1,000= 75 N= 21 Pv= 830.0706725 Current Yield= Coupon/ PV = 75/ 830.0706725= 9.035%
Which of the following are subject to double taxation? A.Corporation B.Partnership C.Sole proprietorship D.A and B E. None of the above
A
HIgh frequency traders
A class of traders who, with the aid of computers, execute trades many times per secound in response to new information.
Yield curve
A graph of the term structure
Interest Rate per compounding period
APR/(k periods/year)
Accounts payable days
Accounts payable/ Average daily cost of sales
Limited Liability companies
All owners have limited liability, but they can also run the business Relatively new buisness form in US
Which one of the following statements concerning annuities is correct? A. The present value of an annuity is equal to the cash flow amount divided by the discount rate. B. An annuity due has payments that occur at the beginning of each time period. C. The future value of an annuity decreases as the interest rate increases. D. If unspecified, you should assume an annuity is an annuity due. E. An annuity is an unending stream of equal payments occurring at equal intervals of time.
An annutiy due has payments that occur at the beginning of each time period
Limit order
An order to buy or sell a set amount at a fixed price
Accounts Payable turnover
Annual cost of sales/ Accounts payable
Inventory turnover
Annual cost of sales/ Inventory
Accounts Receivable turnover
Annual sales/ Accounts recievable
You are comparing two annuities. Annuity A pays $100 at the end of each month for 10 years. Annuity B pays $100 at the beginning of each month for 10 years. The rate of return on both annuities is 8 percent. Which one of the following statements is correct given this information? A. The present value of Annuity A is equal to the present value of Annuity B B. Annuity B will pay one more payment than Annuity A will. C. The future value of Annuity A is greater than the future value of Annuity B. D. Annuity B has both a higher present value and a higher future value than Annuity A. E. Annuity A has a higher future value buta lower present value than Annuity B.
Annuity B has both a higher present value and a higher future value than Annuity A.
Investors always buy at the ____ and sell at the _____. Since ____ prices always exceed ____ prices, Investors ____ the difference. It is one of the transaction costs since the market makers take the other side of the trade they make the difference.
Ask, Bid, Ask, Bid, Loose
Which of the following balance sheet equations is incorrect?
Assets- Current Liabilities= Long term Liabilities
The Principal- Agent Problem Arises
Because of the separation of ownership and control in a corporation Because managers have little incentive to work in the interest of shareholders when this means working against their own self- interest.
Which of the following statements is FALSE? A.OnNASDAQ, stocks can and do have multiple market makers who compete with each other.Each market maker must post bid and ask prices in the NASDA network where they can be viewed by all participants. B.Bid prices exceed ask prices. C.Because customers always buy at the ask and sell at the bid, the bid-ask spread is a transaction cost investors have to pay in order to trade. D.On the floor of the NYSE, prior to 2005 market makers(known on the NYSE as specialists) matched buyers and sellers.
Bid prices exceed ask prices.
Bid price versus Ask price
Bid-Ask spread Transaction cost
Sole Proprietorship
Business is owned and run by one person. - Typically has few, if any, employees Advantages: Easy to create Disadvantages: - No seperation between the firm and the owner -Unlimited personal liability - Limited Life
Computing the outstanding loan balance
Can compute the outstanding loan balance by calculating the present value of the remaining loan payments
Cash ratio
Cash/ Current liabilites
Formation of corporation
Corporation must be legally formed. Corporation files a charter with state it wishes to encorporate with. The state then charters the corporation, formally giving consent to incorporation Due to attractive legal enviornment for corporations, Delaware is a popular choice for incorporation
Current ratio
Current Assets/ Current liabilities
Net working Capital
Current assets- current liabilties
A fire has destroyed a large percentage of the financial records of the Strongwell Co. You have the task of piecing together information in order to release a financial report. You have found the return on equity to be 13.8 percent. Sales were $979,000, the total debt ratio was 0.42, and total debt was$548,000. What is the return on assets? A. 6.92 percent B.8.00 percent C. 8.45 percent D. 9.03 percent E. 9.29 percent
D/A= 0.42---> A= 548,000/0.42= 1,304,761.90 E= A-D= 1,304,761.90- 548,000= 756,761.90 NI/E= ROE----> NI= 0.138* 756,761.90= 104,433.1428 ROA= NI/A= 104,433.1428/ 1,304,761.90= 8.004%
Which one of the following will increase the profit margin of a firm, all else constant? A. Increase in interest paid B. Increase in fixed costs C. Increase in depreciation expense D. Decrease in the tax rate E. Decrease in sales
Decrease In tax rate
NASDAQ
Does not meet in a physical location May have many market makers for a single stock
Tax implications of Corporation
Double taxation
EBITDA
EBIT+depreciation+amortization
Ebit Margin
EBIT/ Sales
Which of the following will increase the future value of a lump sum investment? I. Decreasing the interest rate II. Increasing the interest rate III. Increasing the time period IV. Decreasing the amount of the lump sum investment
Increasing the Interest rate Increasing the time period
Inventory days
Inventory/Average Daily Cost of Sales
The App Store needs to raise $2.2 million for an expansion project. The firm wants to raise this money by selling zero coupon bonds with a par value of $1,000 that mature in 20 years. The market yield on similar bonds is 8.8 percent. How many bonds must The App Store sell to raise the money it needs? (Assume semiannual compounding.)
FV= 1,000 N= 20*2= 40 I= 8.8/2= 4.4% PMT= 0 PV= ?---> 178.640553 Number of bonds to sell= Money needed/ PV = 2,200,000/ 178.640553= 12,315.23
S corporation
Firms profit are not subject to corporate income tax, but instead are allocated directly to the shareholders.
Gross Margin
Gross profit/ sales
Limited Partnership
Have limited liability/ cannot lose more than their initial investment Have no managment authority/ cannot legally be involved in mangerial decision making for business
General Parnership
Have same rights/ Liability as partners in regular partnership
CEO performance
If a CEO is performing poorly, shareholders can express their dissatisfaction by selling their shares. This selling pressure will drive the stock price down.
Annual Percentage rate
Indicates the amount of simple interest earned in one year. APR is typically less than the effective annual rate (EAR)
Effective Annual Rate
Indicates the total amount of interest that will be earned at the end of one year. Considers the effect of compounding. Also refered to as the effective annual yield (EAY) or annual percentage yield (APY)
Which of the following statements is False? A.If there is a fixed supply of resources available, so that you cannot undertake all possible opportunities, then simply picking the highest NPV opportunity might not lead to the best decision. B.If there is a fixed supply of a resource available, you should rank projects by the profitability index, selecting the project with the lowest profitability index first and working your way down the list until the resource is consumed. Your answer is correct. C.Practitioners often use the profitability index to identify the optimal combination of projects when there is a fixed supply of resources. D.The profitability index is calculated as the NPV divided by the resources consumed by the project.
If there is a fixed supply of a resource available, you should rank projects by the profitability index, selecting the project with the lowest profitability index first and working your way down the list until the resource is consumed
If Alex Corporation takes out a bank loan to purchase a machine used in production and everything else stays the same, its equity multiplier will ________, and its ROE will ________.
Increase, Increase
Simple intereest
Is the amount of interest earned without the effect of compounding
Corporation
Legal entitiy seperate from its owners. Has many legal powers individuals have such as the ability into contracts, own assets, and borrow money Corporation soley responsible for own obligations. Its owner are not liable for any obligation the corporation enters into
Hostile Takeover
Low stock prices may entice a Corporate Raider to buy enough stock so they have enough control to replace current management. The stock price will rise after the new management team "fixes" the company.
Eithics and incentives within the corporation
Managers may act in their own interest rather than in the best interest of the shareholders. One potential solution is to tie managements compensation to firms performance
P/E ratio
Market Capitalization/Net Income Share price/ earnings per share
Total Enterprise value
Market value of equity+ Debt- Cash
Market value versus Book value
Market value of equity= market price per share* Number of shares outstanding Cannot be negative Often differs substantially from book value Market to Book ratio: = Market value of equity/ Book value of equity Value stocks= Low M/B ratios Growth stocks= High M/B ratios
Return on Assets
Net income+ Interest expense/ Total assets
Return on equity
Net income/ Book value of equity
Earnings per share
Net income/ Shares outstanding
Net Profit Margin
Net income/ Total Sales
The Frims and society
Often, A corporations decisions that increase the value of the firms equity benefit society as a whole. As long as nobody else is made worse off by a corporations decisions, increasing the value of the firms equity is good for society. It becomes a problem when increasing the value of the firms equity comes at the expense of others
Operating margin
Operating income/ sales
Market orders
Orders that trade immediately at the best outstanding limit order
Computing loan payments
Payments are made at a set interval, typically monthly Each payment made includes the interest on the loan plus some part of the loan balance All payments are equal and the loan is fully repaid with the final payment
Which of the following statements is FALSE? A.The amount of each coupon payment is determined by the coupon rate of the bond. B.Prior to its maturity date, the price of a zero-coupon bond is always greater than its face value. C.The simplest type of bond is a zero-coupon bond. D.Treasury bills are U.S. government bonds with a maturity of up to one year.
Prior to its maturity date, the price of a zero- coupon bond is always greater than its face value
Corporate bankruptcy
Reorganization and liquidation
Ownership of Corporation
Represented by shares of stock. -Shareholders, Stockholders, and equity holders Sum of all ownership value is called equity. No limit to number of shareholders. The amount of funds a company can raise by selling stock. Owners entitiled to pay dividends
Planters Bank pays 5 percent simple interest on its savings account balances, whereas Centura Bank pays 5 percent compounded annually. If you made a $12,000 deposit in each bank, how much more money would you earn from your Centura Bank account at the end of 20 years?
SI= P*T*R= 12,000 * 20 *0.05= 12,000 Balance= 12,000 +12,000= 24,000 Compound Interest Case: PV= 12,000 N=20 I= 5% FV=?---> 31,839.5724 Difference= 31,839.5724- 24,000= 7,839.5724
Partnership
Similar to a sole propiretorship, but with more than one owner - All parners are personally liable for all of the firms debt. A lender can require any partner to repay all of firms debt - Parnership ends with death or withdrawl of a parner
Suppose the yield on German government bonds is 1.3% while the yield on Spanish Government bonds is 6.2%. Both bonds are denominated in euros. Which country do investors believe is more likely to default? Why?
Spain is more likely to default, Sovereign bond yields reflect investor expectations of inflation, currency, and default risk
Which of the following statements is FALSE? A.Because interest rates may be quoted for different time intervals, it is often necessary to adjust the interest rate to a time period that matches that of our cash flows. B.The effective annual rate indicates the amount of interest that will be earned at theend of one year. C.The annual percentage rate indicates the amount of simple interest earned in one year. D.The annual percentage rate indicates the amount of interest including the effect of compounding.
The annual percentage rate indicates the amount of interest including the effect of compounding.
Real interest rate
The rate of growth of your purcahsing power, after adjusting for inflation
Nominal interest rate
The rates quoted by financial institutions and used for discounting or compounding cash flows.
Term Structure
The relationship between the investment term and the interest rate
Investors Opprotunity cost of Capital
The best avalible expected return offered in the market on an investment of comparable risk and term to the cash flow being discounted
Explain why the yield of a bond that trades at a discount exceeds the bond's coupon rate.
The bond can be purchased for a discount, which gives it an "extra return"; hence, the yield exceeds the coupon.
Limit order book
The collection of all limit orders
Which of the following statements is FALSE? A.It is possible that an IRR does not exist for an investment opportunity. B.If the payback period is less than a pre-specified length of time, you accept the project. C.The internal rate of return (IRR) investment rule is based upon the notion that if the return on other alternatives is greater than the return on the investment opportunity, you should undertake the investment opportunity. D.It is possible that there is no discount rate that will set the NPV equal to zero.
The internal rate of return (IRR) investment rule is based upon the notion that if the return on other alternatives is greater than the return on the investment opportunity, you should undertake the investment opportunity.
The Dairy Delight wants to raise $1.0 million by selling some coupon bonds at par. Comparable bonds in the market have a 6.5 percent annual coupon, 15 years to maturity, and are selling at 98 percent of par. What coupon rate should The Dairy Delight set on its bonds?
To sell bonds at par, we need to set CR equal to YTM. We will get YTM from info provided for similar bonds in the Market. FV= 1,000 PV= 0.98*1,000= 980 N=15 PMT= 0.065* 1,000= 65 YTM= ---> 6.7156%
Debt-to equity ratio
Total Debt/Total Equity
Debt to capital ratio
Total debt/ total equity+ total debt
Dark Pools
With exchange trading, the limit book orders are public, allowing investors to trade at the current bid or ask price, and transactions are visible to all traders when they occur Dark pools do not make their limit order books visable They offer investors the ability to trade at a better price with the tradeoff being that their order might not be filled if an excess of either buy or sell orders is recieved
Accounts Recievable days
accounts recievable/average daily sales
Debt-to- enterprise value
net debt / (market value of equity + net debt)
