Practice Midterm

A

A corporation can earn 7.50% if it invests in municipal bonds. The corporation can also earn 8.15% (before-tax) by investing in preferred stock. Assume that the two investments have equal risk. What is the break-even corporate tax rate that makes the corporation indifferent between the two investments? Assume a 50.00% dividend exclusion for tax on dividends. (Do not round your intermediate answer and round your final answer to two decimal places.) A. 15.95% B. 25.52% C. $22.60% D. 24.72% E. 31.64%

E

A firm wants to strengthen its financial position. Which of the following actions would increase its current ratio? A. Reduce the company's days' sales outstanding to the industry average and use the resulting cash savings to purchase a new plant and equipment. B. Use cash to repurchase some of the company's own stock. C. Borrow using short-term debt and use the proceeds to repay debt that has a maturity of more than one year. D. Use cash to increase inventory holdings. E. Issue new stock, then use some of the proceeds to purchase additional inventory and hold the remainder as cash.

T

A time line is meaningful even if all cash flows do not occur annually. True or False

F

A time line is not meaningful unless all cash flows occur annually. True or False

C

Alan and Sara Winthrop are a married couple who file a joint income tax return. They have two children, and they have legitimate itemized deductions totaling $25,750. Their total income from wages is $169,100. Assume the following tax table is applicable: What is their average tax rate? ​ A. 17.20% B. 19.21% C. 16.3% D. 14.64% E. 17.93%

E

Companies HD and LD have the same total assets, sales, operating costs, and tax rates, and they pay the same interest rate on their debt. Both firms finance using only debt and common equity, and total assets equal total invested capital. However, company HD has a higher total debt to total capital ratio. Which of the following statements is CORRECT? A. Company HD has a higher basic earning power ratio (BEP). B. Company LD has a higher basic earning power ratio (BEP). C. If the interest rate the companies pay on their debt is more than their basic earning power (BEP), then Company HD will have the higher ROE. D. Given this information, LD must have the higher ROE. E. If the interest rate the companies pay on their debt is less than their basic earning power (BEP), then Company HD will have the higher ROE.

F

EBITDA stands for "earnings before interest, taxes, debt, and assets." True or False

D

Han Corp's sales last year were $465,000, and its year-end receivables were $52,500. The firm sells on terms that call for customers to pay 30 days after the purchase, but some delay payment beyond Day 30. On average, how many days late do customers pay? Base your answer on this equation: DSO - Allowed credit period = Average days late, and use a 365-day year when calculating the DSO. Assume all sales to be on credit. Do not round your intermediate calculations. A. 10.87 B. 13.12 C. 11.55 D. 11.21 E. 11.99

C

Hayes Corporation has $300 million of common equity, with 6 million shares of common stock outstanding. If Hayes' Market Value Added (MVA) is $108 million, what is the company's stock price? (Round your final answer to two decimal places.) A. $75.48 B. $82.96 C. $68.00 D. $83.64 E. $59.84

T

If a bank compounds savings accounts quarterly, the effective annual rate will exceed the nominal rate. True or False

F

If a lower level person in a firm does something illegal, like "cooking the books" to understate costs and thereby increase profits above the correct profits because he or she was told to do so by a superior, the lower level person cannot be prosecuted but the superior can be prosecuted. True or False

C tax liability = (new taxable income + old taxable income) * (corporate tax rate)

In 2020, Mays Industries taxable income was -$85,000. In 2021, its taxable income was $120,000. Its corporate tax rate is 25%.Assume that the company takes full advantage of the Tax Code's carry-forward provision. What is the company's tax liability for 2021? A. $14,400 B. $10,500 C. $8,750 D. $12,480 E. $13,650

B

Last year Hamdi Corp. had sales of $500,000, operating costs of $450,000, and year-end assets (which is equal to its total invested capital) of $400,000. The debt-to-total-capital ratio was 17%, the interest rate on the debt was 7.5%, and the firm's tax rate was 25%. The new CFO wants to see how the ROE would have been affected if the firm had used a 50% debt-to-total-capital ratio. Assume that sales, operating costs, total assets, total invested capital, and the tax rate would not be affected, but the interest rate would rise to 8.0%. By how much would the ROE change in response to the change in the capital structure? Do not round your intermediate calculations. A. 3.13% B. 2.61% C. 3.05% D. 1.96% E. 3.18%

D

Last year Harrington Inc. had sales of $325,000 and a net income of $19,000, and its year-end assets were $250,000. The firm's total-debt-to-total-capital ratio was 40.0%. The firm finances using only debt and common equity, and its total assets equal total invested capital. Based on the DuPont equation, what was the ROE? Do not round your intermediate calculations. A. 15.45% B. 13.17% C. 14.82% D. 12.67% E. 14.31%

E

Last year, Delip Industries had (1) negative cash flow from operations, (2) a negative free cash flow, and (3) an increase in cash as reported on its balance sheet. Which of the following factors could explain this situation? A. The company had a sharp increase in depreciation expenses. B. The company had a sharp increase in its inventories. C. The company had a sharp increase in its accrued liabilities. D. The company made a large capital investment early in the year. E. The company sold a new issue of common stock.

F

Managers always attempt to maximize the long-run value of their firms' stocks, or the stocks' intrinsic values. This is exactly what stockholders desire. Thus, conflicts between stockholders and managers are not possible. True or False

A

Money markets are markets for A. Short-term debt securities such as Treasury bills and commercial paper. B. Foreign currencies. C. Consumer automobile loans. D. Common stocks. E. Long-term bonds.

T

One danger of starting a proprietorship is that you may be exposed to personal liability if the business goes bankrupt. This problem would be avoided if you formed a corporation to operate the business. True or False

T

Partnerships and proprietorships generally have a tax advantage over corporations. True or False

False

Private markets are those like the NYSE, where transactions are handled by members of the organization, while public markets are those like the NASDAQ, where anyone can make transactions. True or False

T

Ratio analysis involves analyzing financial statements to help appraise a firm's financial position and strength. True or False

D

Shrives Publishing recently reported $11,500 of sales, $5,500 of operating costs other than depreciation, and $1,250 of depreciation. The company had $3,500 of bonds that carry a 6.25% interest rate, and its federal-plus-state income tax rate was 25%. During the year, the firm had expenditures on fixed assets and net operating working capital that totaled $1,550. These expenditures were necessary for it to sustain operations and generate future sales and cash flows. What was its free cash flow? (Round your intermediate and final answers to whole dollar amount.) A. $2,955 B. $3,039 C. $2,593 D. $3,263 E. $3,457

T

Some partners in a partnership may have different rights, privileges, and responsibilities than other partners. True or False

A

Song Corp's stock price at the end of last year was $26.25 and its earnings per share for the year were $1.30. What was its P/E ratio? A. 20.19 B. 16.36 C. 22.01 D. 17.37 E. 19.79

T

Suppose Firms A and B have the same amount of assets, total assets are equal to total invested capital, pay the same interest rate on their debt, have the same basic earning power (BEP), finance with only debt and common equity, and have the same tax rate. However, Firm A has a higher debt to capital ratio. If BEP is greater than the interest rate on debt, Firm A will have a higher ROE as a result of its higher debt ratio. True or False

T

Suppose a firm wants to maintain a specific TIE ratio. It knows the amount of its debt, the interest rate on that debt, the applicable tax rate, and its operating costs. With this information, the firm can calculate the amount of sales required to achieve its target TIE ratio. True or False

A

Ten years ago, Lucas Inc. earned $0.50 per share. Its earnings this year were $1.80. What was the growth rate in earnings per share (EPS) over the 10-year period? A. 13.67% B. 10.66% C. 11.89% D. 12.16% E. 14.90%

T

The "over-the-counter" market received its name years ago because brokerage firms would hold inventories of stocks and then sell them by literally passing them over the counter to the buyer. True or False

T

The board of directors is the highest ranking body in a corporation, and the chairman of the board is the highest ranking individual. The CEO generally works under the board and its chairman, and the board generally has the authority to remove the CEO under certain conditions. The CEO, however, cannot remove the board, but he or she can endeavor to have the board voted out and a new board voted in should a conflict arise. It is possible for a person to simultaneously serve as CEO and chairman of the board, though many corporate control experts believe it is bad to vest both offices in the same person. True or False

T

Time lines can be constructed for annuities where the payments occur at either the beginning or the end of the periods. True or False

B

To which Which of the following statements is CORRECT? A. Accounts receivable are reported as a current liability on the balance sheet. B. If a company pays more in dividends than it generates in net income, its retained earnings as reported on the balance sheet will decline from the previous year's balance. C. Dividends paid reduce the net income that is reported on a company's income statement. D. If a company issues new long-term bonds to purchase fixed assets during the current year, its reported current assets and current liabilities at the end of the year will increase. E. If a company uses some of its bank deposits to buy short-term, highly liquid marketable securities, its current assets as shown on the balance sheet will decline.

T

When a corporation's shares are owned by a few individuals who are associated with the firm's management, we say that the stock is closely held. True or False

C

Which of the following actions would be most likely to reduce potential conflicts between stockholders and bondholders? A. The firm begins to use only long-term debt, e.g., debt that matures in 30 years or more, rather than debt that matures in less than one year. B. Compensating managers with more stock options and less cash income. C. Including restrictive covenants in the company's bond indenture (which is the contract between the company and its bondholders). D. The passage of laws that make it harder for hostile takeovers to succeed. E. A government regulation that banned the use of convertible bonds.

D

Which of the following actions would be most likely to reduce potential conflicts of interest between stockholders and bondholders? A. Abolishing the Security and Exchange Commission. B. Financing risky projects with additional debt. C. Compensating managers with stock options. D. The use of covenants in bond agreements that limit the firm's use of additional debt and constrain managers' actions. E. The threat of hostile takeovers.

D

Which of the following factors would explain how a company's cash balance could have increased even though the company had a negative cash flow last year? A. The company had high depreciation expenses. B. The company paid a large dividend. C. The company made a large investment in a new plant and equipment. D. The company sold a new issue of bonds. E. The company repurchased 20% of its common stock.

B

Which of the following is an example of a capital market instrument? A. Money market mutual funds. B. Preferred stock. C. Banker's acceptances. D. Commercial paper. E. U.S. Treasury bills.

D

Which of the following statements is CORRECT? A. A time line is not meaningful unless all cash flows occur annually. B. Time lines cannot be constructed to deal with situations where some of the cash flows occur annually but others occur quarterly. C. Time lines can only be constructed for annuities where the payments occur at the end of the periods, i.e., for ordinary annuities. D. Time lines can be constructed where some of the payments constitute an annuity but others are unequal and thus are not part of the annuity. E. Time lines are not useful for visualizing complex problems prior to doing actual calculations.

E

Which of the following statements is CORRECT? A. If some cash flows occur at the beginning of the periods while others occur at the ends, then we have what the textbook defines as a variable annuity. B. The cash flows for an annuity due must all occur at the ends of the periods. C. If a series of unequal cash flows occurs at regular intervals, such as once a year, then the series is by definition an annuity. D. The cash flows for an ordinary (or deferred) annuity all occur at the beginning of the periods. E. The cash flows for an annuity must all be equal, and they must occur at regular intervals, such as once a year or once a month.

A

Which of the following statements is CORRECT? A. Proprietorships and partnerships generally have a tax advantage over corporations. B. Corporations of all types are subject to the corporate income tax. C. In any partnership, every partner has the same rights, privileges, and liability exposure as every other partner. D. Proprietorships are subject to more regulations than corporations. E. One of the disadvantages of incorporating your business is that you could become subject to the firm's liabilities in the event of bankruptcy.

C

Which of the following statements is CORRECT? A. Relative to proprietorships, corporations generally face fewer regulations, and they also find it easier to raise capital. B. There is no good reason to expect a firm's stockholders and bondholders to react differently to the types of assets in which it invests. C. Stockholders should generally be happier than bondholders to have managers invest in risky projects with high potential returns as opposed to safe projects with lower expected returns. D. One disadvantage of operating as a corporation rather than as a partnership is that corporate shareholders are exposed to more personal liability than are partners. E. Stockholders in general would be better off if managers never disclosed favorable events and therefore caused the price of the firm's stock to sell at a price below its intrinsic value.

D

Which of the following statements is CORRECT? A. While the distinctions are becoming blurred, investment banks generally specialize in lending money, whereas commercial banks generally help companies raise capital from other parties. B. A liquid security is a security whose value is derived from the price of some other "underlying" asset. C. Money market mutual funds usually invest their money in a well-diversified portfolio of liquid common stocks. D. The NYSE operates as an auction market, whereas NASDAQ is an example of a dealer market. E. Money markets are markets for long-term debt and common stocks.

E

Which of the following statements is CORRECT? A. While the distinctions are blurring, investment banks generally specialize in lending money, whereas commercial banks generally help companies raise capital from other parties. B. Home mortgage loans are traded in the money market. C. If an investor sells shares of stock through a broker, then it would be a primary market transaction. D. Capital markets deal only with common stocks and other equity securities. E. The New York Stock Exchange is an auction market, and it has a physical location.

A

You have a chance to buy an annuity that pays $13,500 at the end of each year for 3 years. You could earn 5.5% on your money in other investments with equal risk. What is the most you should pay for the annuity? A. $36,422.10 B. $36,057.88 C. $43,706.52 D. $35,693.66 E. $37,514.76

C

You observe that a firm's ROE is above the industry average, but both its profit margin and equity multiplier are below the industry average. Which of the following statements is CORRECT? A. Its return on assets must equal the industry average. B. Its total assets turnover must be below the industry average. C. Its total assets turnover must be above the industry average. D. Its total assets turnover must equal the industry average. E. Its TIE ratio must be below the industry average.

A

You sold a car and accepted a note with the following cash flow stream as your payment. What was the effective price you received for the car assuming an interest rate of 17.0%? A. $4,632 B. $5,188 C. $5,465 D. $5,697 E. $4,724

A

Your father paid $10,000 (CF at t = 0) for an investment that promises to pay $750 at the end of each of the next 5 years, then an additional lump sum payment of $14,500 at the end of the 5th year. What is the expected rate of return on this investment? A. 14.27% B. 16.42% C. 15.17% D. 14.73% E. 9.50%

C

​Analysts who follow Howe Industries recently noted that, relative to the previous year, the company's net cash provided from operations increased, yet cash as reported on the balance sheet decreased. Which of the following factors could explain this situation? A. ​The company issued new long-term debt. B. ​The company sold a division and received cash in return. C. ​The company made large investments in fixed assets. D. ​The company issued new common stock. E. ​The company cut its dividend.

F

​Each stock's rate of return in a given year consists of a dividend yield (which might be zero) plus a capital gains yield (which could be positive, negative, or zero). Such returns are calculated for all the stocks in the S&P 500. A simple average of those returns (which gives equal weight to each company in the S&P 500) is then calculated. That average is called "the return on the S&P Index," and it is often used as an indicator of the "return on the market." True or False

T

​If you decide to buy 100 shares of Google, you would probably do so by calling your broker and asking him or her to execute the trade for you. This would be defined as a secondary market transaction, not a primary market transaction. True or False

C

​Which of the following is a primary market transaction? A. ​IBM sells 2,000,000 shares of treasury stock to its employees when they exercise options that were granted in prior years. B. ​You buy 200 shares of IBM stock from your brother. The trade is not made through a broker; you just give him cash and he gives you the stock. C. ​IBM issues 2,000,000 shares of new stock and sells them to the public through an investment banker. D. ​One financial institution buys 200,000 shares of IBM stock from another institution. An investment banker arranges the transaction. E. You sell 200 shares of IBM stock on the NYSE through your broker.