Finance - Finals
How is a zero coupon bond different from a conventional bond?
1. zeroes are always issued at a discount 2. zeroes make no interest payments
What is an example of a timing option?
Waiting to build a convenience store in an area where several housing developments have been proposed
What is a real option?
a valuable managerial option that can affect both the future cash flows and feasibility of a project
Which six factors determine the yield on a bond?
1. expected future inflation 2. interest rate risk 3. default risk 4. taxability 5. lack of liquidity 6. real rate of return
Investment in net working capital arises when ____.
1. inventory is purchased 2. cash is kept for unexpected expenditures 3. credit sales are made
Firms may retain all their earnings if they have identified ___
1. growth opp 2. positive NPV projects
Buying new cost-cutting equipment affects operating cash flows by:
1. increasing depreciation deduction 2. increasing pretax income 3. increasing taxes
How is investing in US Treasury bonds different from investing in corporate bonds?
1. Interest from US Treasuries is exempt from taxes at the state level but corp interest is not. 2. treasury issues have virtually no default risk
Which of the following are reasons why NPV is considered a superior capital budgeting technique?
1. NPV considers time value of money 2. NPV considers all the cash flows
How is a conventional bond different from a zero coupon bond?
1. a conventional bond pays periodic coupon interest while zeroes make no interest payments 2. conventional bonds can sell at par, at a discount from par, or at a premium over par while zeroes can not
What info do we need to determine the value of stock using the zero-growth model?
1. annual dividend amount 2. discount rate
Which of the following are true about allocated costs?
1. benefit more than 1 project 2. allocated more than 1 project
What information is needed to compute a bond's yield to maturity?
1. bond's current price 2. coupon rate 3. time to maturity
Which of the following statements regarding the relationship between book value, sales price, and taxes are true when a firm sells a fixed asset?
1. book value represents the purchase price minus the accumulated depreciation 2. taxes are based on the difference between the book value and the sales price 3. there will be a tax savings if the book value exceeds the sales price
What is the basic output of a Monte Carlo simulation?
A distribution of cash flow for each future year
Which of the following correctly describes the relationship between depreciation, income, taxes, and investment cash flows?
As depreciation expense increases, net income and taxes will decrease, while investment cash flows will increase
How does depreciation affect the operating cash flows?
Depreciation expense reduces the taxable income and taxes, and increases the operating cash flow
What is scenario analysis?
Determines the impact on NPV of a set of events relating to a specific scenario
Firms generally maintain two sets of books, one for the IRS and the other for the purposes of generating financial statements according to the ____
FASB
A market order allows the investor the choose the price they will transact at.
False
Which of the following is the most complex technique for capital budgeting analysis?
Monte Carlo simulation
What is the difference between nominal cash flow and real cash flow?
Nominal cash flow is the actual dollars to be received. Real cash flow refers to the cash flow's purchasing power.
Which of the following terms apply to a bond?
Par value Coupon rate Time to maturity
Which of the following statements is true in context of comparing accounting profit and present value break-even point?
Present value is superior to accounting profit because it adjusts for time value and considers the depreciation tax shield effect
What is the difference between the quoted yield and the effective yield?
Quoted yield does not adjust for compounding while effective yield does adjust
Which of the following is an example of a sunk cost?
R&D expense incurred in the past
Which of the following is an example of an opp cost?
Rental income likely to be lost by using a vacant building for an upcoming project
If the growth rate is larger than the discount rate, the dividend growth model with constant growth does not work.
True
NPV will be the same regardless of whether nominal or real cash flows are used
True
The value of real options, if they exist, must be included in capital budgeting analysis.
True
While performing sensitivity analysis, we recompute NPV several times by changing one input variable at a time.
True.
In general, what is the decision rule for evaluating two mutually exclusive projects using NPV?
accept the project that has the higher positive NPV
Incremental cash flows of a project are changes in a firm's cash flows that occur as a direct consequence of ____
accepting a project
When analyzing a project, sunk costs ____ incremental cash outflows
are not
opp costs
benefits lost due to taking on a particular project
What are original issue discount bonds?
bonds that are issued with a very low coupon rate
Which of the following is given greater importance in capital budgeting problems in corp finance?
cash flow
Net working capital
current assets - current liabilities
All else constant, the dividend yield will increase if the stock price ___
decreases
The liquidity premium compensates investors based on a bond's ___
degree of marketability
The net present value technique does not discount earnings because earnings ____
do not represent real money
A contribution margin of $35 means that ____
each sale of an additional unit will contribute $35 to the profit
The promised yield and the expected return for a risk-free security will be ____
equal
If Kellogg's introduces a new brand of cereal, it will most likely lead to ___ in its sales of existing cereals
erosion; i.e. a decrease
A limitation of bond ratings is that they ____
focus exclusively on default risk
The NYSE's goal is to ___
generate as much liquidity as possible
A bond rated AAA by Standard & Poor's is classified as a __ grade bond.
high
A firm may choose to forgo dividends today if growth opps are ___
high
Interest expenses incurred on debt financing are ___ when computing cash flows from a project.
ignored
An increase in depreciation expense will ______ cash flows from operations.
increase
Assume you own a bond currently valued at $989. If the market rate of interest drops, the bond's current market value will ____
increase
If the tax rate increases, the value of the depreciation tax shield will _________.
increase
Synergy will _____ the sales of existing products
increase
Synergy will cause the cash flows from the sale of existing products to ____
increase
Which of the following is true about a multi-year typical bond's coupon?
it is a fixed annuity payment
What is the asked price?
it is the price at which a dealer is willing to sell a particular security
What will happen to the default risk premium during periods of economic uncertainity?
it will increase
The computation of equivalent annual costs is useful when comparing projects with unequal __________.
lives
In an inflationary environment, reported earnings are ___ if a firm uses LIFO rather than FIFO accounting.
lower
a decision tree involves ____
mapping the sequential outcomes of various decisions and corresponding probabilities
As a general rule, when estimating equivalent annual costs, ____ cash flows should be used.
real
Inflation will ___ the value of a traditional bond's expected cash flows (interest and repayment of principal).
reduce
In a Monte Carlo simulation, a distribution of cash flows for each future year of a given project is generated from ____
repeated drawings
What are the two sets of accounting books
shareholders' books and tax books
A Monte Carlo simulation analyzes ____
the expected NPV by determining a probability distribution for each variable
It is appropriate to use the approximate formula for estimating the real interest rate when:
the interest rate and inflation rate are low
Corporate managers care about the break-even point because it indicates ____
the level to which sales can fall before a project will start losing money
What is the purpose of accounting profit break-even analysis?
to determine the level of sales at which profits are equal to zero
The coupon rate on an original issue discount bond will be ___
very low
Sensitivity analysis is aka
what-if and bop (best, optimistic, and pessimistic) analyses
Why is the YTM of a discount bond greater than the bond's current yield?
Current yield does not include the capital gain from the price discount
Why does a bond's value fluctuate over time?
The coupon rate and par value are fixed, while market interest rates change.
Calculating the promised yield on a corporate bond is the same as calculating the yield to maturity on a government bond because ___
the promised yield assumes no default
The contribution margin per unit will increase if ____
the sales price per unit increases while the variable cost per unit decreases
The degree of interest rate risk depends on _
the sensitivity of the bond's price to interest rate changes
Which cases should make one particularly skeptical when estimating the required rate of return?
1. when the growth rate is greater than or equal to the discount rate 2. zero dividend case
Which of the following steps are involved in performing a Monte Carlo simulation?
1. calculating NPV 2. Specifying a model 3. specifying a distribution for each variable in the model 4. generating outcome
Identify the three main sources of cash flows over the life of a typical project
1. cash outflows from investment in plant & equipment at the inception of the project 2. net cash flows from salvage value at the end of the project 3. net cash flows from sales & expenses over the life of the project
Which of the following variables are required to calculate the value of a bond?
1. coupon rate 2. remaining life of bond 3. market yield
In a Monte Carlo simulation, specifying a distribution for annual revenue will generally involve which of the following?
1. forecasting probabilities of various market shares 2. determining a distribution of sale prices 3. modelling industry sales
Why do no-payout stocks sell at positive prices?
1. investors speculate on capital returns if the firm is sold 2. investors count on future dividends
Which of the following are features of municipal bonds?
1. issued by state & local governments 2. interest on municipal bonds is exempt from federal taxes
Which of the following are true about a bond's face value?
1. it is the principal amount repaid at maturity 2. aka par value
What are the two main drawbacks of sensitivity analysis?
1. it may increase the false sense of security among managers if all pessimistic estimates of NPV are positive 2. it does not consider interaction among variables
When enterprise value is calculated, cash is subtracted from the market value of debt and equity because ___
1. many firms hold more cash than necessary 2. an EV ratio should reflect the ability of productive assets to create cash flow
Which of the following pieces of information are required in order to compute NPV?
1. projected future cash flows 2. discount rate 3. time horizon of the project
The US government borrows money by issuing ____
1. treasury bonds 2. treasury notes
Earnings next year are a function of which factors?
1. earnings this year 2. return on retained earnings 3. retained earning this year
a firm will start generating positive profits when ____
the total number of units sold exceeds the accounting break-even point
What is a corporate bond's yield to maturity (YTM)?
1. expected return for an investor who buys the bond today and holds it to maturity. 2. prevailing market interest rate for bonds with similar features
Which costs are included in the numerator of the accounting profit break-even point equation?
1. fixed costs 2. depreciation
Which shape does the term structure of interest rates usually have?
1. upward sloping 2. could also be downward sloping or humped
Under which of the following scenarios will an option to abandon be a valuable option?
1. when a project's assets can be quickly liquidated at fair values 2. when future market conditions are unpredictable 3. when there is the possibility of a negative future outcome