FINC 515 Exam 1

What companies went bankrupt between the years of 2000 and 2008?

-Enron -Lehman Brothers -WorldCom

What US firms manipulated and misstated their accounts to the tune of billions of dollars?

-Qwest Communications -HealthSouth

Absolute purchasing power parity tells us that ___.

$1 will buy you the same number of tangerines anywhere in the world

The difference between the expected return on the market portfolio and the riskless rate is known as the

-expected excess market return. -market risk premium.

What is true about fixed assets?

-fixed assets have a longer life than current assets. -fixed assets can be tangible or intangible.

The types of financial assets include _____, _____, and ______.

-fixed income -equity -derivatives

What is important when considering a partnership?

-fund raising limitations -taxation of partnership income -personal liability for firm debts

What are considered non-owner stakeholders in a company?

-government -suppliers -employees

What are the two questions to be asked in ascertaining how effective managers will be in advocating for stockholders' best interests?

-how closely are management goals aligned with stockholder goals? -can managers be replaced if they do not pursue stockholder goals?

What conditions are necessary for absolute purchasing power parity?

-identical goods -no trade barriers -no transaction costs

A good financial decision will?

-increase market value of shareholders' equity -increase the value of the firm's existing stock

Financial assets examples:

-stocks -bonds -dollar bills

What two groups are most interested in liquidity ratios?

-suppliers -bankers

The historical market risk premium is estimated to be ______.

7%

What financial assets are included in household wealth?

Bank accounts, corporate stock, and bonds

Money deposited in a financial center outside the country whose currency is involved is called

Eurocurrency

A Eurobond is issued in multiple countries and denominated in multiple currencies. TF

False

Agency problems are easy to fix. TF

False

An decrease in operating leverage increases beta. TF

False

Firms that are better able to estimate cash flows are less likely to use NPV. TF

False

Fixed costs do change as quantity changes. TF

False

Ownership of a corporation is difficult to transfer. TF

False

______ involves an iterative process that culminates in a result negotiated between various parties involved in the process.

Financial planning

If a firm accepts a project, the value of the firm will rise by the ______ of the project.

NPV

You must know the discount rate to make a decision under

NPV and IRR

If PepsiCo's capital intensity ratio is 1.26 and Coca Cola Company's capital intensity ratio is 1.60, what statement is correct?

PepsiCo is more efficient in using its assets to generate sales.

_________ PPP explains the changes in exchange rates over time.

Relative

In 2002 in response to the spate of ethics scandals, what act did Congress pass to tighten the rules of corporate governance?

Sarbanes-Oxley Act

What can be used as the U.S. nominal risk-free rate?

T-bill rate

A firm can use its extra cash to either pay a dividend or invest in a project. TF

True

Firms often face a trade-off between fixed and variable costs. TF

True

The problem with IRR is that it ignores issues of scale. TF

True

With the MIRR, the cash flows are modified first and then those modified cash flows are used to calculate the IRR. TF

True

Almost all currency trading takes place in terms of the

US dollar

The material wealth of a society, determined by the productive capacity of the economy is a function of real ______ of the economy.

assets

The average accounting return is calculated as the average net income of the project divided by the

average book value of the investment during the project's life.

Capital ______ is the decision-making process for accepting and rejecting projects.

budgeting

In a financial plan, how is the amount of borrowing determined?

by management's D/E decision

The rules used by a corporation to regulate its existence are known as _________

bylaws

______ budgeting is the process of making and managing expenditures on long-term assets.

capital

The ratio of total assets to sales is known as the ______.

capital intensity ratio

What term applies to the mixture of debt and equity maintained by a firm?

capital structure

The federal government taxes what?

corporate earnings and shareholder dividends

The corporation comprises shareholders, directors, and:

corporation officers

What is an agreement to deliver one currency in exchange for another?

currency swap

The current ratio computes the relationship between ______.

current assets and current liabilities.

U.S. Treasury securities considered to be risk-free because they have minimal, if any, ____ risk.

default

Unlimited liability, limited life of the enterprise, and difficulty in transferring ownership are all _______ organizing as a partnership or sole proprietorship.

disadvantages of

We can evaluate two mutually exclusive projects by comparing the incremental IRR to the ______.

discount rate

What capital budgeting decision method finds the present value of each cash flow before calculating a payback period?

discounted payback period

NPV ______ cash flows properly.

discounts

What must decrease in order to increase a firm's sustainable growth?

dividends paid

What is not a participant in the foreign exchange market?

domestic stock traders

One tax disadvantage corporations face is:

double taxation

The total value of the stock in a for-profit corporation is ________ _____ the value of the owners' equity.

equal to

The total value of the stock in a for-profit corporation is _____________ the value of the owners' equity.

equal to

A firm should only undertake a project if its expected return is ______ that of a financial asset of comparable risk.

equal to or greater than

International ________ rates, interest rates, and inflation rates are closely related.

exchange

Shareholders are the ONLY stakeholder in a firm as they are the owners. TF

false

A security such as a bond that pays a specified cash flow over a specific period is a(n) ______-_____ or _____ security.

fixed-income, debt

The issuance costs of bonds and stocks are referred to as ______ costs.

flotation

Bonds issued in a single country and usually denominated in that country's currency are

foreign bonds.

One of the most significant complications faced by multinationals daily is

foreign exchange rates.

A ______ trade is an agreement to exchange currency at some time in the future.

forward

The use of _______ exchange agreements can help reduce the short-term exposure to exchange rate risk.

forward

In covered interest arbitrage, investors protect themselves against changes in exchange rates by locking in the ______.

forward exchange rate

What determines when a sale is recorded for accounting purposes?

generally accepted accounting principles

__________ implies that the NPV of a project is that project's contribution to a firm's value.

Value additivity

The internal rate of return is a function of

a project's cash flow

An independent project would be ______ when the profitability index is great than 1 and ______ when the profitability index is less than 1.

accepted' rejected

What is an example of a current liability?

accounts payable

The attempt to improve performance either by identifying mis-priced securities or by timing the performance of broad asset classes is referred to as _______ management.

active

In a financial plan using the percentage of sales approach, why is it assumed that some assets increase with sales?

additional working capital and fixed assets are needed to support growth

The property of value ______ implies that the contribution of any project to a firm's value is simply the NPV of the project.

additivity

That managers of a public corporation often pursue their own interests rather than the interests of the shareholders is referred to as the ______ problem.

agency

The costs incurred due to a conflict of interest between stockholders and management are called ______ costs.

agency

The relationship between stockholders and management can best be described as a(n) ______ relationship.

agency

The agency problem refers to the possible conflicts of interest between self-interested managers as ______ and shareholders of the firm who are the ______.

agents; principals

The information needed to compute the profit margin can be found on the ______.

income statement

The problems with scale in the profitability index can be corrected by using ______ analysis.

incremental

The _________ exchange rate quote for the Swiss franc shows that you could buy .97 Swiss francs for $1, written CHF.97/USD1.

indirect

If the operations of a firm are similar to its industry, the ______ beta should be used to estimate the firm's cost of equity capital.

industry

The net present value of a project's cash flows is divided by the ______ to calculate the profitability index.

initial investment

When two parties exchange a floating-rate payment for a fixed-rate payment or vice versa, what occurs?

interest rate swap

The enterprise value multiple is useful for comparisons of firms when there are differences in each of the following except ______.

inventory methods

A commitment of current resources in the expectation of deriving greater resources in the future is the definition of a(n) ______.

investment

Firms specializing in the sale of new securities to the public, typically by underwriting the issue, are called ______.

investment banks

Capital markets allow the risk inherent in all investments to be borne by ______ the most willing to bear it.

investors

The foreign exchange market ___.

is an over-the-counter market

A sole proprietorship is a business that _______.

is owned by one person

The life of a corporation ______.

is unlimited

The purpose of the Securities Act of 1933 was to provide the basic regulatory framework for what function?

issuing new securities

A problem with the payback method is that

it does not consider the timing of cash flows within the payback period.

What is true of the discounted payback period method?

it has some of the same major flaws as the payback method.

A ______ liability does not have to be paid within one year.

long-term

Capital budgeting is concerned with making and managing expenditures on _____.

long-term assets

Unanticipated changes in relative economic conditions that affect the value of a foreign operation are known as ___.

long-term exposures to exchange rate risk

Unexpected changes in economic conditions can cause fluctuations in the value of a foreign operation. The risk of those fluctuations is known as

long-term exposures to exchange rate risk.

Since ownership in a corporation can be dispersed over a huge number of stockholders, it can be argued that ______ effectively controls the firm.

management

When a large group owns stock in a company, stockholders individually have very little power to control the direction of the firm. This means that ______ effectively controls the firm.

management

Individual divisions of a firm attempting to hedge risk could cause the overall firm's exchange rate risk to go up. This serves as evidence that

management of overall rate risk is probably best handled on a centralized basis.

__________ help to allocate capital efficiently only if investors are acting on accurate information.

market signals

The price-earnings (PE) ratio is a ______ ratio.

market value

What is a strategy for hedging long-term exchange rate risk?

matching foreign currency inflows and outflows

The goal of a for-profit business is to ______ the value of existing owners' equity.

maximize

What is Eurocurrency?

money deposited in a financial center outside of the country with the involved currency

Corporations with significant foreign operations are often called ___.

multinationals

As long as the cash flows are positive, the discounted payback period will ______ the payback period because discounting reduces the value of the cash flows.

never be smaller than

The foreign exchange market is where ____.

one country's currency is traded for another country's currency

Indirect agency costs are often due to lost ______.

opportunities

Why is it more challenging to manage long-term exchange rate risk exposure than to hedge short-term risks?

organized forward markets do not exist for long-term needs of corporations.

An LLC is meant to be a hybrid of what two types of ownership?

partnership and corporation

Changes in the value of international investments due to the actions of governments is referred to as ______ risk.

political

Investments in firms that do not trade on public stock exchanges are known as __________ investments.

private equity

Financial planning using the percentage of sales approach produces ______.

pro forma financial statements

Profit maximization is a ________ goal for a firm to pursue.

problematic

When the typical stock in the S&P 500 Index has a PE ratio 12, a company with a PE ratio of 15 may have ______ than average growth prospects, given similar earnings per share.

higher

A _________ is the authority to vote someone else's stock.

proxy

What is an important mechanism used by unhappy stockholders to replace current management?

proxy fight

If a company's common-size income statement shows a lower percentage for cost of goods sold this period compared to last period, the company may be controlling its costs well or it has ______.

raised its prices relative to costs

The international Fisher effect asserts that ______ interest rates are equal across countries.

real

Unlike _____ assets, one person's _____ asset is another person's liability.

real, financial

The CAPM can be used to estimate the _____ return.

required

The CAPM can be used to estimate the ___.

required return on equity

As the amount and timing of cash flows are not known with certainty, this means that investors carry a certain amount of _____, which firms should be aware of.

risk

The discount rate is determined by the ______ of a project.

risk

A common-size income statement expresses items as a percentage of ______ thereby simplifying the comparison of companies within an industry

sales

NPV accounts for the size of the project, eliminating the effects of ______.

scale

In constructing portfolios, the choice of which particular assets to hold within an asset class is the __________ decision.

security selection

The owners of a corporation are called ______.

shareholders

What party would be the last party to receive payment if a firm were to close?

shareholders

Bylaws are meant to regulate:

shareholders, directors, and officers

A current asset has a(n) ______ life.

short

Alpha Co. imports raw materials and uses forward contracts to reduce what risks?

short-run exposure to exchange rate risk

The day-to-day fluctuations in exchange rates create ___.

short-term exchange rate risk exposure

The IRR allows a manager to summarize the information about a project in a ______ rate of return.

single

Common-size statements are used for comparing firms with differing ______.

sizes

An agreement to trade currencies within two business days at today's exchange rate is called a ___.

spot trade

______ financial statements provide for comparison of firms that differ in size.

standardized

When using the spreadsheet function NPV, the cash outflow at Time 0 must be ______.

subtracted from the PV of the other cash flows

If a firm maintains a constant debt-equity ratio and dividend payout ratio, and does not use any new external equity financing, the firm can grow at a rate no greater than its ______.

sustainable growth rate

What is not a determinant in approximating the beta when a new project constitutes its own industry?

tax rate

A shareholder's liability is limited to what?

the amount the shareholder invested in the corporation

What does it mean when a company reports ROA of 12 percent?

the company generates $12 in net income for every $100 invested in assets.

What are not true of MIRRs?

the discounting approach is clearly the best MIRR method.

What is not true of MIRRs?

the discounting approach is clearly the best MIRR method.

What does an inventory turnover ratio of 5 mean?

the entire inventory was sold and replaced 5 times during the year.

The primary responsibility of financial managers is to increase the value of _____.

the existing shares of stock

What does it mean when a firm has a days' sales in receivables of 45?

the firm collects its credit sales in 45 days on average.

What statements is most likely correct for a firm with days' sales in receivables of 30 days?

the firm finances approximately 8 percent of its annual sales at any given time.

What does a total asset turnover ratio of .75 mean?

the firm generated $.75 in sales for every $1 in assets.

What does a current ratio of 1.2 mean?

the firm has $1.20 in current assets for every $1 in current liabilities.

How do you interpret a current ratio of 1.38 times?

the firm has its current liabilities covered 1.38 times over.

The capital budgeting method that allows lower management to make smaller, everyday financial decisions easily is

the payback method

What is true of the payback method?

the payback method is useful to companies with limited capital.

What is NOT required when using the CAPM to compute the cost of equity capital?

the rate of inflation

According to the CAPM, what is the expected return on a stock if its beta is equal to zero?

the risk-free rate

The firm's cost of equity capital is ______ the required rate of return to the shareholders.

the same as

With mutually exclusive projects, the profitability index suffers from the same problem that the IRR rule does in that it fails to consider

the size or scale of projects.

What is the difference in results between the home currency approach and the foreign currency approach?

the two procedures produce the same answer

A poorly managed firm is an attractive target for a hostile takeover because:

there is greater profit potential

What is not a problem with measuring beta?

there is no basic method that can be used to measure beta.

Why do bondholders and stockholders invest in a company?

to make money

What is the fundamental goal of the Sarbanes-Oxley Act of 2002?

to protect investors from corporate abuse

What best explains why financial managers use a common-size balance sheet?

to track changes in a firm's capital structure

If a firm uses its overall cost of capital to discount cash flows from higher risk projects, it will accept ______ projects.

too many high-risk

Portfolio construction techniques that start with the asset allocation decision and then progress to more specific security-selection decisions are referred to as ______.

top-down

The capital intensity ratio is the reciprocal of the ______ ratio.

total asset turnover

A common-size balance sheet expresses accounts as a percentage of ______.

total assets

Shareholders' equity is the difference between what?

total assets and total debt

Some financial ratios measure a firm's ______, which indicates how efficiently a firm is using its assets to generate sales, while others measure a firm's financial ______, which demonstrates the ability to pay its bills over the short run without undue stress.

turnover, liquidity

The condition stating that the expected percentage change in the exchange rate is equal to the difference in interest rates between the countries is called ___.

uncovered interest parity

The difference between the cash flows generated by a foreign project and the amount that is actually repatriated to the parent firm is referred to as ______ cash flows.

unremitted

The weighted average cost of capital (RWACC) is the overall expected return the firm must earn on its existing assets to maintain its ___.

value

There is often a trade-off between a firm's fixed costs and its ______ costs.

variable

Start-up companies rely on bank loans and investors who are willing to invest in them in return for an ownership stake in the firm. What do you call the equity investment in these young companies?

venture capital

What does WACC stand for?

weighted average cost of capital

The Securities Exchange Act of 1934 established what government agency?

SEC

A firm's cost of debt can be ___.

-estimated more easily than its cost of equity -obtained by talking to investment bankers -obtained by checking yields on publicly traded bonds

What does it mean if a company's capital intensity ratio is 2.4?

The firm requires $2.40 in assets to generate $1 in sales.

The discount rate for the firm's projects equals the cost of capital for the firm as a whole when ___.

all projects have the same risk

Sources of venture capital are dedicated venture capital funds, wealthy individuals known as __________ and institutions such as pension funds.

angel investors

Because there is no guide for choosing the payback cutoff date under the payback method, the payback cutoff date is

arbituray

An organization must prepare ______ and bylaws when forming a corporation.

articles of incorporation

A corporation is a distinct ______ entity and as such can have a name and take advantage of the legal powers of natural persons.

legal

A dollar received one year from today has ______ value than a dollar received today.

less

What companies were involved in corporate scandals that led to Sarbanes-Oxley?

-WorldCom -Tyco -Enron

When a corporation is formed, it is granted what?

-ability to issue stock -legal powers to sue -provincial citizenship for jurisdictional purposes

According to the basic investment rule for NPV, a firm should ______.

-accept a project if the NPV is greater than zero. -reject a project if NPV is less than zero. -be indifferent towards accepting a project if NPV is equal to zero

According to the basic IRR rule, we should ______ a project if the IRR is ______ than the discount rate.

-accept; greater -reject; less

The decision rule for a project for which the first cash flow is an inflow and subsequent cash flows are negative states that we should ______ the project when the IRR is ______ than the discount rate.

-accept; less -reject; greater

Using accounting numbers in the AAR method is a weakness because

-accounting numbers are somewhat arbitrary. -the basic inputs are affected by the accountant's judgment.

What items are used to compute the current ratio?

-accounts payable -cash

What non-cash expenses are on the income statement?

-amortization expense -depreciation expense

What is true concerning triangle arbitrage?

-arbitrage opportunities can exist in either the spot or the forward markets. -it helps keep the currency market in equilibrium. -it is a profitable situation involving three separate currency exchange transactions.

The discounted payback period has what weaknesses?

-arbitrary cutoff date -exclusion of some cash flows -loss of simplicity as compared to the payback method

What is generally true about firm betas and industry membership?

-betas are likely to change when a firm changes industries -betas can change even when a firm remains in the same industry.

What are true of MIRR?

-MIRRs are controversial. -MIRRs don't suffer from the multiple rate of return problem.

Preferred stock ___.

-pays dividends in perpetuity -pays a constant dividend

Projects should always be discounted at the firm's overall cost of capital. TF

False

What is the acronym for the interest rate most international banks charge one another for overnight Eurodollar loans?

LIBOR

What is a Eurobond?

a bond issued in multiple countries but denominated in a single currency

What is the implicit exchange rate between two currencies quoted in a third currency?

cross-rate

On the balance sheet, total assets must equal total ______.

liabilities and owners' equity

Investment banking firms handle the _____ marketing of new issues in the market, and later investors trade the previously-issued securities among themselves in the _____ market.

primary, secondary

Return on equity (ROE) is a measure of ______.

profitability

The concept that exchange rates adjust to keep purchasing power constant among currencies is referred to as ___.

purchasing power parity

Other companies that specialize only in projects similar to the project your firm is considering are called ___.

pure plays

An international firm that has contractual agreements to buy and sell goods in the near future at set prices are subject to

short-term exchange rate risk exposure.

The payback method ignores all cash flows occurring after the payback period which means

that some valuable long-term projects are likely to be rejected.

What do we know about the stability of a firm's beta?

-betas can change over time. -betas are more likely to be stable if the firm remains in the same industry.

What is true concerning beta?

-betas may vary over time. -firm's beta may change if the firm increases its debt-equity ratio. -the sample size used to compute a firm's beta may be inadequate.

Financial planning models typically do NOT rely on what?

-cash flow size -risk -timing

What are weaknesses of the payback method?

-cash flows received after the payback period are ignored. -the cutoff date is arbitrary. -timing of cash flows within the payback period are not considered.

What can cause a firm's beta to change over time?

-changes in technology -changes in leverage -changes in product line

What can be used to determine the cost of debt?

-checking the yield on publicly traded bonds -talking to commercial and investment bankers

Two mutually exclusive projects can be correctly evaluated by ______.

-comparing the incremental IRR to the discount rate -comparing the NPVs of the two projects -examining the NPV of the incremental cash flows

What real assets are included in household wealth?

-consumer durables -real estate

Why a are corporations the most important form of business?

-corporation is a separate legal entity with the ability to acquire and exchange property. -corporations can sue and be sued. -corporations can enter into contracts.

What potential goals for a company relate to profitability?

-cost control -market share -sales

What components are used in the construction of the WACC?

-cost of debt -cost of common stock -cost of preferred stock

When a new project constitutes its own industry, comparing the values of its ______ to comparable firms should help determine an appropriate beta.

-cyclicality of revenues -financial leverage -operating leverage

Financial analysis uses EBITDA over EBIT because the former adds back ______ and ______ and is thus a better measure of pretax operating cash flow.

-depreciation expense -amortization expense

What are some ways in which a foreign subsidiary can remit cash flows to a parent?

-dividends -management fees for central services -royalties for the use of trade names and patents

What are the two basic classifications under which most potential financial goals fall?

-earning or increasing profits -controlling risk

What are included in a firm's capital structure?

-equity -long-term debt

Firms raise cash by issuing

-equity securities -debt securities

Users of the foreign exchange market include ___.

-importers who pay for goods using foreign currencies -speculators who try to profit from changes in exchange rates -foreign exchange brokers who match buy and sell orders

According to Graham and Harvey's 2001 survey of 392 CFOs, what two capital budgeting methods are most used by firms in the U.S. and Canada?

-internal rate of return -net present value

The foreign currency approach to capital budgeting analysis ___.

-is computationally easier than the home currency approach -computes the NPV of a project in both the foreign and domestic currency -produces the same results as the home currency approach

The timing of cash flows within the payback period

-is not considered by the payback method. -impacts the NPV of the project.

What is true of the DDM?

-it is only useful for firms that pay steady dividends. -it is simple.

What is true about the WACC?

-it is the expected return a firm must earn on its existing assets to maintain its current value. -it is also referred to as the discount rate that is used to discount cash flows in capital budgeting problems.

What is true of the internal rate of return method?

-it is the most important alternative to the NPV method. -the IRR depends solely on the cash flows of the project. -it provides a single number summarizing the merits of a project.

Why do companies choose to use IRR?

-it summarizes information about a project in a single rate of return. -it provides a simple way of discussing projects.

What securities are considered fixed income?

-junk bonds -floating-rate bonds

What are the disadvantages to a sole proprietorship?

-limited life of the enterprise -difficulty in raising cash -unlimited liability

The Sarbanes-Oxley Act requires corporate officers to do what?

-list any deficiencies in internal controls -accept responsibility for material errors in the annual report -confirm the validity of the annual financial report

What are the best examples of cyclical firms?

-luxury retailers -automakers

A foreign subsidiary can remit funds to the parent company in which of the following ways?

-management fees -royalties -dividends

To estimate a firm's equity cost of capital using the CAPM, we need to know the ___.

-market risk premium -risk-free rate -stock's beta

What are weaknesses of the AAR method of project analysis?

-no account of timing -use of accounting values rather than cash flows -arbitrary target rate

What is correct when describing purchasing power parity?

-parity is expressed as both absolute and relative. -exchange rates adjust to keep purchasing power level between currencies. -purchasing power parity is a major factor in the rate of change in exchange rates.

Real assets examples:

-patents -land

What are costs to a firm associated with Sarbox compliance?

-paying auditors and other compliance fees -choosing to delist from U.S. stock exchanges

What costs to a firm associated with Sarbox compliance?

-paying auditors and other compliance fees -choosing to delist from U.S. stock exchanges

What are mechanisms to mitigate potential agency problems:

-poor or bad performers may be subjected to the threat of a takeover. -compensation plans tie to the income of managers to the success of the firm. -boards of directors can force out management teams that are underperforming.

Based on the sustainable growth rate, what factors affect a firm's ability to sustain growth?

-profit margin -financial policy -dividend policy

According to Graham and Harvey's 2001 survey of 392 CFOs, what capital budgeting methods are used by less than 50% of firms in the U.S. and Canada?

-profitability index -discounted payback -accounting rate of return

Regulation is meant to:

-reduce conflicts of interest -improve corporate governance

What is true concerning government regulation?

-regulation can help ensure firms disclose relevant information to investors. -regulation can help reduce conflicts of interest between managers and shareholders. -regulation can be costly to a firm.

The discount rate assigned to a project reflects the ______.

-risk of the project -opportunity cost to the investor

What is true about shareholders' equity?

-shareholders' equity is a residual claim on a firm's assets. -shareholders' equity is the difference between the value of a firm's assets and its debt.

What are the five categories of financial ratios?

-short-term solvency -long-term solvency -asset management -profitability -market value.

What can be used to encourage managers to act in the best interests of shareholders?

-stock options and bonuses -threat of termination -monitoring through reports -managerial compensation tied to performance

A corporation receives cash from financial markets by selling ______ and ______.

-stocks -bonds

Large businesses do not organize as partnerships or sole proprietorships because of:

-the difficulty in raising funds -the risks of unlimited liability -the difficulty in transferring ownership

In order to apply the dividend discount model to a particular stock, we have to estimate

-the dividend yield. -the growth rate.

What is true of the modified IRR (MIRR)?

-the idea is to modify cash flows first then calculate the IRR using the modified cash flows. -there are several different ways to calculate the MIRR.

What is not a reason that projects with the same payback period may not be equally attractive?

-the payback method includes cash flows that occur outside the payback period. -the cutoff date for the payback method is assigned by the SEC so firms have no say in the date used.

The growth rate of dividends can be estimated using ___.

-the retention ratio × ROE -security analysts' forecasts -historical dividend growth rates

What does value additivity mean for a firm?

-the value of a firm is simply the combined value of the firm's projects, divisions, and entities owned by the firm. -the NPV values of individual projects can be added together.

What is true about security analysts?

-they are sometimes employees of investment banking houses. -they are sometimes employees of money management firms.

What roles are of security analysts?

-they forecast dividends and earnings. -they make stock recommendations.

What are true about U.S. Treasury instruments?

-they have never defaulted. -they are not expected to default at this time.

Financial assets allow the risk of a real asset to be borne by investors ______.

-through the sale of securities for the best prices -whose preferences match the securities' risk-return characteristics

What are mechanisms to mitigate potential agency problems?

-top executives are provided with shares or stock options. -shareholders can launch proxy contests.

The different types of exchange rate risk include which of the following?

-translation exposure -short-term exposure -long-term exposure

What is true of the CAPM?

-tt is applicable to firms that pay no dividends. it explicitly adjusts for risk.

what are weaknesses of the AAR method of project analysis?

-use of accounting values rather than cash flows -no account of timing -arbitrary target rate

What is true of variable costs?

-variable costs increase as output increases. -variable costs "vary" with level of output.

What are examples of fixed assets?

-warehouses -equipment

How prevalent is the use of the CAPM in valuation in the U.S.?

Almost three-fourths of U.S. companies use the CAPM in valuation.

For both academics and practitioners, the pendulum has swung over to the _______ for estimating the cost of equity capital.

CAPM

Cal's Market has ROE of 15 percent. What does this mean?

Cal's generated $.15 in profit for every $1 of book value of equity.

Political risk refers only to problems for U.S. companies caused by foreign governments. TF

False

The Sarbanes-Oxley Act provides incentives for companies to go public in US markets. TF

False

______ refers to any difference in interest rates between two countries for some period offset by just the change in the relative value of the currencies, thus eliminating any arbitrage possibilities.

IRP

__________ involves moving through three different exchange rates and is an opportunity that exists when cross-rates are inconsistent with exchange rates.

Triangle arbitrage

A company can deduct interest paid on debt when computing taxable income. TF

True

A firm choosing to build its own factory would incur a high level of fixed costs. TF

True

Accounting profit does not adequately account for cash flow. TF

True

An increase in financial leverage increases beta. TF

True

An investment, for example the purchase of shares of stock, should justify not only time the money tied up but also the risk of the investment. TF

True

Due to the risk-return trade-off in the securities markets, the higher-risk assets are priced to offer higher expected returns than lower-risk assets. TF

True

Fixed costs tend to magnify the impact of sales cyclicality. TF

True

The Tax Cuts and Jobs Act of 2017 eliminated the repatriation issue with overseas earnings. TF

True

Two challenges with the IRR approach when comparing two mutually exclusive projects are scale and cash flow timing. TF

True

Under US tax law, a corporation's interest payments are tax deductible. TF

True

Variable costs change with changes in quantity. TF

True

If a firm has multiple projects, each project should be discounted using ___.

a discount rate commensurate with the project's risk

What does a financial plan with an internal growth rate of 6% mean?

a firm can achieve a maximum of 6% growth without obtaining external financing.

An agreement to exchange currencies at a future point in time at an exchange rate that is agreed upon today is called ____.

a forward trade

The quick ratio provides a more reliable measure of liquidity than the current ratio especially when the company's inventory takes ______ to sell.

a long time

What is ADR?

a security issued in the US that represents shares of a foreign stock

The payback period rule ______ a project if it has a payback period that is less than or equal to a particular cutoff date.

accepts

Profitability measures such as ROA and ROE are ______ rates of return.

accounting

The owners of a firm wish to make a risky investment with upside, as the value of the stock may go up. Management wants to avoid this investment, as there is significant risk, and jobs may be lost as a result. This is an example of an _________ _________.

agency cost

If you hire a real estate company to sell your house, you are most apt to encounter what?

agency problem

Sarbox requires officers of the corporation to review and sign the company's ______.

annual reports

In constructing portfolios, the choice among stocks, bonds, real estate and other broad classes is the __________ decision.

asset allocation

Some of the cash flow sent from the financial markets to the firm in the form of stock purchases is then used to invest in:

assets

Accepting a positive NPV project will ______ the stockholders by ______ the value of the firm.

benefit; increasing

The slope of the characteristic line of a firm's returns versus those of the market is the ___.

beta

Funds from a foreign subsidiary that cannot currently be remitted are sometimes said to be ___.

blocked

The market-to-book ratio evaluates a company's current market value relative to its ______.

book value

The sustainable growth rate answers the question: How much can the firm grow before it must ______.

borrow money

The percentage of sales approach described in the textbook assumes that any deficit of funds were

borrowed

A problem with the ______ strategy is the possibility of unintended bets on one or another sector of the economy.

bottom-up

Flotation costs are costs incurred to ____.

bring new security issues to the market

The use of local financing from the government of the foreign country where the operation is located ___.

can reduce political risk

The primary purpose of issuing debt or equity shares is to raise ______ for the firm.

cash

The primary purpose of issuing debt or equity shares is to raise ______ for the firm. Multiple choice question.

cash

What would allow analysts to compare the financial leverage of different size firms?

common-size balance sheet

What is tax-deductible to the firm?

coupon interest paid on bonds

Protecting oneself from a change in the exchange rate by locking in the forward exchange rate today is called ______.

covered interest arbitrage

The acid test ratio is considered to be a better measure of liquidity than the ______ ratio because ______ is (are) often the least liquid current asset.

current, inventory

An important accounting goal is to report financial information to users in a way that is useful for ______.

decision making

The ______ discounts cash flows and then determines the time it takes for those cash flows to equal the initial investment.

discounted payback period method

The risk-reward trade-off of an asset depends on its effect on the risk of a(n) ______ portfolio, that is, one with many assets so that the exposure to any particular asset is limited.

diversified

Some of the cash flow generated by a firm goes back to the financial markets in the form of ______.

dividends and debt payments

A cyclical firm is one in which revenues go ______ in the contraction phase of the business cycle.

down

The beta of a new project may be greater than the beta of existing pure play firms since it is likely to be more responsive to ___.

economywide movements

A market is said to be ______ when prices reflect all available information concerning the values of securities.

efficient

If stockholders are receiving residual growth in their share of the firm, that means that:

everyone else affiliated with the firm must also be seeing the benefits of growth

The sustainable growth rate is the maximum growth that a company can sustain without having to increase its ______.

financial leverage

_____ assets are claims to the income generated by _____ assets.

financial, real

On a balance sheet, patents and trademarks are classified as ______.

fixed assets

What assets last a long time and include items such as equipment, land, machinery or buildings.

fixed assets

What is true for a firm whose stock has a PE ratio of 8?

for each share purchased, the investor is investing $8 for every dollar of earnings.

Assuming the asset beta is positive, the equity beta will always be ______ the asset beta with financial leverage.

greater than

The equity beta of a levered firm will always be ______ the equity beta of an otherwise identical all-equity firm.

greater than

Given an internal growth rate of 3 percent, a firm can ______.

grow by 3 percent or less without any additional external financing

When valuing a complete business enterprise, the same process that is used for individual projects can be used. However, the analysis is complicated because a _________ must be used, and a terminal firm value must be determined.

horizon

Operating leverage refers to the firm's fixed costs of production while financial leverage

is the extent to which a firm relies on debt.

What is true about the average beta across all stocks?

it is equal to 1

What is true of the average accounting return method?

it is flawed but still sometimes used in the real world.

Financial planning is a(n) ______ process.

iterative

If a firm issues no debt, its average cost of capital will equal ___.

its cost of equity

The management of exchange rate risk should probably be centralized so that the firm has an understanding of ___.

its overall positions in foreign currency

The cash flows paid into a corporation by its bondholders and stockholders should be ______ the cash flows paid out to bondholders and stockholders.

less than

If management has been unsuccessful at creating value for the company's stockholders, the market-to-book ratio will be ______.

less than 1

Long-term debt on the common-size balance sheet over the past three years was 30, 34, and 40 percent, respectively. This indicates the firm has increased its ______.

leverage

Businesses are motivated to organize as corporations because stockholders in a corporation have _______ liability for corporate debts in case of liquidation of a corporation.

limited

Shareholders' liability is _________ to the amount invested in ownership shares.

limited

Credit analysts, bankers, and other short-term lenders are most interested in what?

liquidity

Current assets on the common-size balance sheet over the past three years have increased from 32 to 35 percent while current liabilities have decreased from 29 to 25 percent. This indicates the firm has increased its ______.

liquidity

Some financial ratios measure a firm's ______, which shows the ability to meet short-term obligations without undue stress, while others measure a firm's financial ______, which demonstrates the ability to meet long-term obligations.

liquidity; leverage

In a shareholder-manager relationship, who is the agent?

managers

The sustainable growth rate is the ______ rate of growth a firm can maintain ______ increasing its financial leverage.

maximum, without

The sales of cyclical firms are ______ sensitive to the business cycle than are the sales of non-cyclical firms.

more

Assuming interest rates are positive, one dollar received today is worth ______ one dollar received next year.

more than

The 1934 Securities Exchange Act restricts anyone who has access to ______ information from trading on that information.

non-public

One of the flaws of the payback period method is that cash flows after the cutoff date are

not considered in the analysis

A current liability is defined as debt that must be repaid within what period of time?

one year

How is ownership transferred in a corporation?

ownership is transferred by gifting or selling shares of stock.

Holding highly diversified portfolios without spending effort or other resources attempting to improve investment performance through security analysis is referred to as ______ management.

passive

If markets are efficient and prices reflect all relevant information, it is probably better to follow ______ strategies.

passive

The length of time, on average, it takes a firm's customers to ______ is referred to as the days' sales in receivables ratio.

pay their bills

The ______ method differs from NPV because it evaluates a project by examining the time needed to recoup the initial investment.

payback

The ______ method is ideal for companies with limited funds that have a need for a quick turn-around of their capital.

payback

The _______ tells us when the cash outflow of an investment is paid back by cash inflows.

payback

Investors' collections of investment assets are referred to as their ______.

portfolios

In general, NPV is

positive for discount rates below the IRR.

For "normal" cash flows, the NPV is ______ if the discount rate is less than the IRR, and it is ______ if the discount rate is greater than the IRR.

positive; negative

In capital budgeting, the net ______ is the value of a project to the company.

present value

The numerator in the profitability ratio is the

present value of the future expected cash flows after the initial investment.

When valuing a firm with the weighted average cost of capital, the ________ value of the firm can be estimated by assuming a constant perpetual growth rate for cash flows beyond the horizon.

terminal

When it is reported that the dollar is stronger in the foreign exchange market it means that ___.

the dollar is more valuable and can buy more of other currencies

What method employs uncovered interest parity to project future exchange rates?

the home currency approach

The theory that real interest rates are equal across countries is called _________.

the international Fisher effect

What statements best describes the purpose of the inventory turnover ratio?

the inventory turnover ratio monitors the rate at which a company is turning over its inventories.

Market value weights are more appropriate than book value weights because

the market values of the securities are closer to the actual dollars that would be received from their sale.

When a securities market conveys accurate information, thereby facilitating the most productive use of capital resources, the market is said to be ______.

transparent

The term premium for long periods is positive because the term structure of interest rates typically slopes

upward

What are ways for a US corporation to reduce political risk in a foreign country?

use local financing

According to the relative purchasing power parity, if the U.S. inflation rate is lower than the foreign country's, the exchange rate will rise because the foreign currency ______ relative to the dollar.

weakens

In the percentage of sales approach to financial planning described in the text book, it is assumed that any surplus funds ______.

were used to pay off debt