business finance exam Flashcards
What does value mean?
Depends on expected cash flows which are evaluated in terms of timing and risk.
What is the agency problem?
When managers act in their own interests rather than those of the shareholders.
What are the agency costs?
Costs incurred due to managers pursuit of their own interests.
What is corporate governance?
Refers to the rules, processes, and laws by which companies are operated, controlled and regulated.
Which of the following managerial goals, if followed by the manager, is least likely to result in an agency problem?
Pursue corporate goals
Which of the following statements regarding the cost of capital is true?
The weighted average cost of capital is the minimum return required to maintain firm value.
Which of the following is least correct with respect to the function of securities exchanges in creating efficient markets?
Control the supply and demand for securities through price
If shares from different industries are added to an ordinary share portfolio, which type of risk is most likely to be reduced?
Unique risk
Which of the following represents the cost of long-term financing to a firm, incorporating the returns required by their various investors?
Cost of capital
Which of the following theories only explains why the yield curve is upward sloping?
Liquidity preference theory
Of the following, which is the best example of an acceptable outcome of appropriate corporate governance practices?
A member of the Board of Directors disclosing to the board chairman a potential conflict of interest
Preference shares are valued as if they were ________.
A perpetuity
The ________ method of equity valuation is used to value preference shares.
Zero-growth model
Unsystematic or diversifiable risk is not relevant to most investors, because:
It can be eliminated through diversification
Which of the following is most correct concerning the slope of the security market line?
It represents the market risk premium
Profit maximisation is not considered to be an appropriate primary financial goal for a firm and its financial manager because it:
Ignores timing of benefits, Tends to be short-term focused, Fails to adequately consider risk, Is less objective than cash flows
Assuming all else is unchanged, which of the following statements about the market price of zero-coupon bonds is TRUE?
The market price increases as the time to maturity approaches
Macro events only are reflected in the performance of the market portfolio because
Unique risks have been diversified away
Investment projects that plot above the security market line would be considered to have:
A positive NPV
The line plotted to fit observations of a stock’s returns versus the market’s returns determines the:
Beta of the stock
Stock returns can be explained by the stock’s _________ and the stock’s __________.
Beta; unique risk
Which of the following statements relating to the agency issue is NOT true?
In agency theory, owners are the agents of managers
The only market in which the issuer is directly involved in the transaction. → The money market comprising suppliers and demanders of short term funds. → Market where existing securities are traded between investors. →
Primary market, Money market, Secondary market
How is it possible to invest only in the market portfolio yet have a portfolio beta of 1.5?
Borrow funds to increase your investment
A stock’s beta measures the:
Variability in the stock’s returns compared to that of the market portfolio
Stock prices reflect the ________ of the company.
Expected future cash flows
Which of the following is most likely correct for a diversified stock portfolio that exhibits a higher standard deviation than the market index?
The portfolio contains fairly aggressive stocks.
Investors are willing to purchase stocks having high P/E ratios because
They expect these shares to have greater growth opportunities
According to the dividend discount model, the current value of a stock is equal to the:
Present value of all expected future dividends
What happens to a firm that reinvests its earnings at a rate equal to the firm’s required return?
Its stock price will remain constant
A proposed project has a positive NPV when evaluated at the company’s cost of equity. If the firm employs debt in its capital structure, will the project remain acceptable after evaluation with the WACC?
Yes, using the WACC will increase the NPV
Which of the following is correct for a bond currently selling at a premium to par?
Its current yield is lower than its coupon rate
What causes bonds to sell for a premium compared to face value?
The bonds have a higher than market coupon rate
A tax shield is equal to the reduction in:
Tax liability resulting from a deductible expense
If the company cost of capital is 20% and a proposed project’s cost of capital is 15%, then discounting the projects’ cash flows at 20% would:
Be incorrect
The WACC is used to value:
Projects with the same risk as the firm’s current business
The tax treatment regarding the sale of existing assets which are depreciable and used in business and are sold for less than the book value results in:
A tax benefit from an ordinary loss
A tax liability is created upon the sale of an asset whenever:
The asset’s market value exceeds its book value
A firm is evaluating a proposal which has an initial investment of $35,000 and has cash flows of $10,000 in year 1, $20,000 in year 2, and $20,000 in year 3. The payback period of the project is:
2.25 years
The preferred approach for risk adjustment of capital budgeting cash flows, from a practical viewpoint, is:
Risk-adjusted discount rates
An investor owns 5,000 shares, which is 1% of a corporation’s outstanding stock before a share repurchase. The investor did not sell any of his stock during the 25,000 share repurchase. Which of the following statements is correct?
The investor owns more than 1% of the corporation
Consistent with the dividend irrelevance theory, “homemade” dividends are created by:
Selling a portion of your non-dividend paying holdings
When a corporation issues permanent debt, the value of all its securities:
Increases by the present value of the tax shield
M&M demonstrated that in perfect markets a firms choice of capital structure
Does not affect its value
The manager of XYZ Corp feels that a dividend increase will increase stock price because many investors value stock with a dividend-discount model. Why might the dividend irrelevance theory disagree with this assertion?
Future dividend growth may slow due to less retained earnings
Beginning with a zero-leverage company, as debt is substituted for equity in the capital structure ________.
The overall cost of capital first declines, reaches a minimum, and then rises
It is generally believed that the value of the firm
Is maximised when the WACC is minimised
Automatic dividend reinvestment plans allow firms to:
Reduce their cash outflow to shareholders
Debt may be the preferred form of external financing for many firms because:
Equity issuance is considered by investors to be a negative sign
When a firm declares a special cash dividend of $1 per share, shareholders realize that the:
Dividend is not likely to be repeated
If taxes are present in a market then:
Expected return on equity increases as financial leverage increases
Dividend policy is a trade-off between ___________ and ___________.
Retained earnings; issuing stock
Those who benefit from the interest tax shield are:
Equity holders
When a company expects to maintain its dividend payments in the future, it will issue:
Regular dividends
Firms with substantial amounts of free-cash-flow often discover that:
They have become takeover targets
The ……… uses no, or very little, safety stock:
Just-in-time system
One of the reasons why proxy fights are rarely successful is that:
Management can use corporate resources to defend against the fight
