(QUIZ) Finance Skills for Managers - D076
(Module 11) A company is considering five projects that are not mutually exclusive. However, the company does not have enough money to do all of them. In order to prioritize projects that fit within the company's budget, which capital budgeting method should be used?
(Module 11) Profitability index (PI) (The PI should be used first to compare the projects and then to rank them to maximize the value of the firm.)
(Module 3) What does the term legal describe?
(Module 3) An action that is in accordance with the laws and rules set by an authority. (Legal means to follow the laws and rules set by an authority.)
(Module 5)
(Module 5)
(Module 6) What makes the expected return subjective and different from other types of returns?
(Module 6) The expected return is based on expectational data and the probability of different scenarios occurring. (The expected return is calculated from hypothesized or "best-guess" estimates of future prices or returns in different scenarios.)
(Module 9) What is discretionary financing needed (DFN)?
(Module 9) The additional financing needed given a firm's expected future growth (DFN is how much additional financing the firm will need given its expectations for future growth.)
What is default risk?
A firm-specific risk that comes from the probability of a loss resulting from a borrower's failure to repay a contractual obligation (This is the correct definition of default risk.)
Which scenario is an example of an opportunity cost that is not associated with cash flows?
Albert decides to stay home and study for his test instead of going to the movies. (The opportunity cost is going to the movies.)
Suppose Sophia is considering a new stock investment for her retirement account. This stock has significant risk, but is quite popular in the market. Inflation for the next few years is expected to be 2-3% per year, and the current U.S. Treasury rates are about 2%. How should she use this information to decide what type of return she can expect from the stock?
Based on the inflation rate, she should expect this stock to provide a return higher than this for the associated risk. (Since the inflation of 2-3% will reduce any nominal returns she receives by this amount, she would want a higher return to accommodate for the opportunity costs and risks associated with the investment.)
Why would creating a cash budget be useful for W&H if the firm needs a loan from the bank or another short-term lender?
Cash budgets increase the lender's trust in a firm by demonstrating the firm's ability to make profits and repay loans. (Cash budgets are detailed plans that show creditors that a firm will have enough cash from month to month to support its operations while staying within acceptable borrowing limits. A good cash budget allows creditors to feel secure in lending money to the firm.)
You are a financial manager of a company. The marketing department has informed you that the projected sales growth for the upcoming year is 10%. As you conduct financial forecasting, you keep the long-term liabilities the same amount as the previous year and will discuss this account with the other managers later. What type of account is long-term liabilities?
Discretionary account (Discretionary accounts do not vary automatically with sales but are left to the discretion of management. In this scenario, you kept the long-term liabilities account the same.)
What is the name for the process of "spreading" money over many different assets?
Diversification (The question stem is the definition of diversification.)
What allows an investor to determine which financial activities are contributing to changes in the return on equity?
DuPont framework (Decomposing the DuPont framework enables analysis of fundamental performance to determine which financial activities are contributing to changes in the return on equity.)
Which professional works with individuals to help them achieve their financial goals?
Financial planner (Professional financial planners work with individuals to help them achieve their financial goals.)
Omar is about to purchase a new car for $30,000. He knows he wants to buy the car, but he is still trying to decide how to pay for it. He has barely over $30,000 in his bank account. He can either take out an auto loan from a bank or use a mix of cash and an auto loan. In this scenario, what is Omar doing?
Financing a goal (He has already made a decision to purchase the car and is now deciding on financing options.)
Knowing that you are taking this finance class, a friend asks you about two investment opportunities he is considering. He wants to know which of the firms is using its assets more efficiently to generate sales. Which set of information could help you determine this?
Firm A has an asset turnover of 4, and Firm B has an asset turnover of 2.5. (Asset turnover is an indicator of how well a firm uses its assets to generate sales. Since Firm A generates $4 of sales for every $1 of assets, it is using its assets more efficiently.)
Jack is a personal financial advisor. He is with a new client, and the client is asking him what he recommends for her portfolio. Jack knows that his firm's investment product performed well last year, but its performance changes from year to year—some years it is better than the market, and some years it is not. Also, the fee to invest in the product is higher than the fee to invest in a market index fund. If Jack sells his company's investment product, the customer's loyalty to the company is doubled. Which actions should Jack take?
Give a personal recommendation of the company's product while explaining its performance relative to the market over the past several years. (Giving a recommendation to sell a product is fine, but you should never hide other information. Sharing information about index funds and comparing your product to others is a fair action to take for the client.)
You are considering starting a new business to sell Widgets in your hometown. You can import the Widgets at a low cost, and you hope to be able to sell them for significantly more. Which ratio can help you calculate how much profit you will earn from the sale of each Widget? (Assume you are only considering the cost of the Widget, not any other operating costs.)
Gross margin (Gross margin tells you the percent of sales that become gross profit. The rest of the money earned from sales is used for the production of goods.)
A company that produces soap, shampoo, lotion, and other personal care products has recently taken a hit due to a competitor's new product line. The company decides to reduce wages for its labor force to save money while the company focuses on building up its reputation again, but the company's labor force goes on strike to protest the pay cuts. What type of risk does the strike represent?
Idiosyncratic risk (Idiosyncratic risk is the same as firm-specific risk. Since the strike will most likely affect only this firm, it is a firm-specific risk.)
What does the risk-free rate indicate?
Inflation and opportunity cost (The risk-free rate includes inflation and opportunity cost.)
Which type of financial institution provides individuals and firms access to financial markets?
Investment institutions (Investment institutions provide both individuals and firms access to financial markets.)
Why is the required rate of return also known as the hurdle rate?
It is the minimum rate that a firm must surpass to accept a project. (When a financial manager decides whether to invest in a certain project, the projected return needs to meet the minimum rate of return, or else the firm must "hurdle" the rate in order to accept the project.)
About a year ago, the short-term Treasury bill had 1.54% interest and the long-term Treasury note had 2.54% interest. This week, the 1-year Treasury bill has an interest rate of 3.13%, while the 10-year Treasury note has an interest rate of 2.28%. What does this information indicate about the future economy?
It may indicate an economic downturn. (Since the long-term Treasury interest rate is lower than the short-term rate, it has an inverted yield curve, which may indicate an economic downturn.)
After W&H Inc. has developed a cash budget, what should the company do in the following months?
It should monitor its actual cash flows and then revise the cash budget if needed. (Monitoring and revising the cash budget will allow W&H Inc. to identify and fix any problems that may arise.)
The YTM of a bond went from 8% to 7%. What can be predicted about the price of the bond?
It will increase. (There is an inverse relationship between YTM and the price of a bond.)
How do the benefits of knowing the cash position for each period differ between businesses and individuals?
Knowing the cash position allows businesses to recognize when short-term loans are needed, while it allows individuals to analyze progress toward their personal financial goals. (Individuals do not usually (and should not) need short-term loans.)
Yield curve is which type of economic indicator?
Leading (Leading indicators change before the economy changes.)
Hannah is the financial manager of a firm. A project that she has recommended has been approved and will cost $5 million. Since the company does not have enough cash on reserve, Hannah must figure out how to raise enough money to start the project. She can choose whether to issue new bonds, new stocks, a mortgage loan, or some combination of those options. What task is Hannah performing in this scenario?
Making a financing decision (Since the project has already been approved, Hannah is trying to find a way to finance the investment and considering its capital structure.)
Which situation is an example of an agency problem?
Managers follow their own interests instead of the owners' interest. (An agency problem occurs when the agent (a manager) does not act in the best interest of the owners.)
What is the difference between tracking and monitoring cash flows?
Monitoring involves using your tracking record to evaluate cash flows against your target, identify patterns and changes in cash flows, and gauge when correction is needed. (By accessing cash flow records and knowing the remaining balance in the budget throughout the month and year, you will be able to monitor your budget in a way that will help you reach your financial goals.)
Which description below correctly identifies one type of price risk?
Operating risk—depends on the effect of the firm's operating decisions on its operating costs (This is the correct description of operating risk.)
Which financial institution includes entities that receive money from institutional investors and wealthy individuals to buy troubled companies to improve them and earn returns by selling them or going public?
Private equity (This is the role of a buyout private equity firm.)
A company is trying to decide which of four projects to invest in. Project 1 has an IRR of 14% and an NPV of $54,000. Project 2 has an IRR of 11% and an NPV of $67,000. Project 3 has an IRR of 9% and an NPV of $60,000. Project 4 has an IRR of 13% and an NPV of $47,000.
Project 2 (The project with the highest NPV will bring the most value to the company.)
The company Betsy's Wigs is considering three potential projects that are not mutually exclusive. The IRR, NPV, and PI for each project are listed in the table below. Use this information to rank the projects in the order in which Betsy's Wigs should accept them to bring the most value to the firm. Project: - Project 1 - Project 2 - Project 3 IRR: - 23% - 18% - 21% NPV - $820 - $880 - $790 PI - 1.02 - 1.27 - 1.35
Project 3, Project 2, Project 1 (The projects with the highest PIs should be accepted first.)
How do corporations and purchasers of financial securities view returns?
Purchasers of financial securities look at returns as the amount of money they require in order to lend or give their money to the corporation that issued those securities. (This is a correct description of returns from the viewpoint of investors.)
A company is trying to finance a project with a mortgage loan from a bank. The company's assessment of the project indicates that the company may experience several years of loss until the project becomes profitable. This means that the company might lose its ability to pay back the loan and the interest on the mortgage. What action might the bank take to protect its interest?
Set a strict covenant that the company cannot easily achieve. (By setting a strict covenant, there is a risk that the company may not meet its obligation, which would deter the company from taking on risky projects.)
Company ABC would like to continue to grow, but in order to maintain control of all decisions and ownership, it wants to avoid issuing new stock. Which calculation will show the company's leadership the fastest that ABC can grow?
Sustainable growth rate (Sustainable growth rate is defined as the rate at which a firm can grow without issuing new equity. It implies that the firm's growth comes from the return on equity less any dividends.)
What is an opportunity cost?
The loss of the ability to use an asset toward the next best project once you have invested it in another project (The concept of opportunity cost is that because you use an asset to invest in one project, you lose the opportunity to use the same asset to do a different project.)
Which condition indicates that an investment will add value to a company?
The present value of the benefits of the investment outweigh the present value of the costs of the investment. (If the project provides more value than it costs, then mathematically it will add value to the company.)
A potential project to expand the size of an apartment complex will cost $100,000. Its calculated net present value is $5,000. Given this information, which statement is correct?
The project should be accepted because it has a positive NPV. (Because the NPV is positive, the project should be accepted.)
What is the inflation rate?
The rate at which the average price level of a basket of goods and services in an economy increases (The rate at which the average price level of a basket of goods and services in an economy increases is the inflation rate.)
What does the discretionary financing needed (DFN) tell us?
The total amount of funding that management will need to obtain through discretionary financing sources (DFN is the difference between the projected total assets and the projected total liabilities plus owners' equity. Any discrepancy between the sources and uses of finance is extra financing that management must obtain.)
For what purpose are market ratios used?
To evaluate the current share price of a public firm's stock (Market ratios are used to evaluate whether the current share of a public firm's stock is correctly priced.)
What is the major purpose of financial forecasting?
To inform a company how business decisions will impact future growth (Financial forecasting helps decision makers understand how actions taken today can impact the firm's future performance.)
Why might a manager manipulate accounting procedures?
To make the company's performance look good (A manager might manipulate accounting procedures to inflate the earnings of a company, which would optimize bonuses and stock-price-related benefits for management.)
Maria and Mateo are setting financial goals. They decide that they need to save $200 each month to reach their goal of taking their children to visit their grandparents in Spain next summer. What is the objective of setting such a goal?
To maximize individual utility (While everyone has different personal financial goals, the objectives of such goals is to maximize individual utility.)
(Module 2) Which responsibility is a focus of the U.S. Securities and Exchange Commission?
To protect investors (The responsibilities of SEC are to protect investors; maintain fair, orderly, and efficient markets; and facilitate capital formation.)
Unit 2 (Module 1) What area of finance involves deciding which assets to invest in to create wealth in the future?
Unit 2 Investments (Investments are an area of finance that involves deciding which assets to invest in to create wealth in the future.)
Unit 3 (Module 4) What is the name for the interest rate expressed on an annual basis?
Unit 3 Annual percentage rate (The APR is the annual interest rate that is charged for borrowing money or that is earned through investment, and it is calculated on an annual basis.)
Unit 4 (Module 7) A company currently has a ratio of 1.5 but hopes to improve the ratio to 2 to align more with the industry benchmark. To achieve this goal, costs were cut in production through an investment in efficient equipment, and the company achieved a higher profit margin. If this continues, you are certain that the firm will achieve its goal in two years. What is this an example of?
Unit 4 Progress measurement (You are comparing the company's ratio to the goal and checking how the company is progressing toward the goal.)
Unit 5 (Module 8) Use the following information to answer the next 3 questions. W&H Company wants to create a cash budget to better manage its cash flows. The financial manager knows that the firm's labor costs and materials costs are too high for the level of sales each month. The firm also needs to keep better track of its cash flows to assess its need for additional financing through short-term loans. W&H Inc.'s labor costs each month are an example of which item in a cash budget?
Unit 5 Cash disbursement (This is a cash disbursement for the firm because it represents cash going out during the month to pay employees.)
Unit 6 (Module 10) Why is it important to have an accurate, carefully calculated required rate of return as part of the NPV?
Unit 6 An inaccurate required rate estimate could cause a firm to reject good projects or accept bad projects. (While the required rate of return is the most difficult part of the NPV calculation to estimate, it is also the most important.)