Quiz 3 Concepts
Which one of the following indicates a portfolio is being effectively diversified?
a decrease in the portfolio standard deviation
Which one of the following is the best example of a diversifiable risk?
a firm's sales decrease
The capital structure weights used in computing the weighted average cost of capital
are based on the market value of the firm's debt and equity securities.
The return earned in an average year over a multi-year period is called the _____ average return.
arithmetic
Which one of the following makes the capital structure of a firm irrelevant?
homemade leverage
When a firm has flotation costs equal to 7 percent of the funding need, project analysts should:
increase the initial project cost by multiplying that cost by 1.07. increase the initial project cost by dividing that cost by (1 - 0.07).
To convince investors to accept greater volatility, you must:
increase the risk premium.
Which one of the following statements is correct concerning market efficiency?
A firm will generally receive a fair price when it issues new shares of stock.
Which one of the following statements is correct concerning the relationship between a levered and an unlevered capital structure? Assume there are no taxes.
At the break-even point, there is no advantage to debt.
Which one of the following statements is correct concerning unsystematic risk?
Eliminating unsystematic risk is the responsibility of the individual investor.
Which of the following are examples of diversifiable risk? I. earthquake damages an entire town II. federal government imposes a $100 fee on all business entities III. employment taxes increase nationally IV. toymakers are required to improve their safety standards
I and IV only
Which one of the following statements is correct?
Overall, a firm makes better decisions when it uses the subjective approach than when it uses its WACC as the discount rate for all projects.
The present value of the interest tax shield is expressed as:
Tc × D.
Which one of the following statements is correct?
The greater the volatility of returns, the greater the risk premium.
The subjective approach to project analysis:
assigns discount rates to projects based on the discretion of the senior managers of a firm.
Systematic risk is measured by:
beta
Unsystematic risk:
can be effectively eliminated by portfolio diversification.
Which one of the following is an example of unsystematic risk?
consumer spending on entertainment decreased nationally
Textile Mills borrows money at a rate of 13.5 percent. This interest rate is referred to as the:
cost of debt
The optimal capital structure has been achieved when the:
debt-equity ratio results in the lowest possible weighted average cost of capital.
A firm's cost of capital:
depends upon how the funds raised are going to be spent.
M&M Proposition II with taxes:
has the same general implications as M&M Proposition II without taxes.
Which one of the following is an example of systematic risk?
investors panic causing security prices around the globe to fall precipitously
According to theory, studying historical stock price movements to identify mispriced stocks:
is ineffective even when the market is only weak form efficient.
As long as the inflation rate is positive, the real rate of return on a security will be ____ the nominal rate of return.
less than
Which one of the following is represented by the slope of the security market line?
market risk premium
Which one of the following is a direct bankruptcy cost?
paying an outside accountant fees to prepare bankruptcy reports
Edwards Farm Products was unable to meet its financial obligations and was forced into using legal proceedings to restructure itself so that it could continue as a viable business. The process this firm underwent is known as a:
reorganization.
AA Tours is comparing two capital structures to determine how to best finance its operations. The first option consists of all equity financing. The second option is based on a debt-equity ratio of 0.45. What should AA Tours do if its expected earnings before interest and taxes (EBIT) are less than the break-even level? Assume there are no taxes.
select the unlevered option since the expected EBIT is less than the break-even level
You are aware that your neighbor trades stocks based on confidential information he overhears at his workplace. This information is not available to the general public. This neighbor continually brags to you about the profits he earns on these trades. Given this, you would tend to argue that the financial markets are at best _____ form efficient.
semistrong
Which one of the following categories of securities has had the most volatile returns over the period 1926-2007?
small-company stocks
The U.S. Securities and Exchange Commission periodically charges individuals with insider trading and claims those individuals have made unfair profits. Given this, you would be most apt to argue that the markets are less than _____ form efficient.
strong
Inside information has the least value when financial markets are:
strong form efficient.
Which one of the following is a risk that applies to most securities?
systematic
M&M Proposition I with no tax supports the argument that:
the debt-equity ratio of a firm is completely irrelevant.
Efficient financial markets fluctuate continuously because:
the markets are continually reacting to new information.
M&M Proposition I with taxes is based on the concept that:
the value of a firm increases as the firm's debt increases because of the interest tax shield.
The flotation cost for a firm is computed as:
the weighted average of the flotation costs associated with each form of financing.
Standard deviation measures which type of risk?
total
Which one of the following risks is irrelevant to a well-diversified investor?
unsystematic risk
If you excel in analyzing the future outlook of firms, you would prefer the financial markets be ____ form efficient so that you can have an advantage in the marketplace.
weak
The absolute priority rule determines:
which parties receive payment first in a bankruptcy proceeding.
