Chapter 1

Question 1

Capital budgeting

Answer 1

Deciding in whether to expand a manufacturing plant

Question 2

Capital Structure

Answer 2

Deciding whether to issue new equity and use the proceeds to retire outstanding debt

Question 3

Capital management

Answer 3

Modifying the firm’s credit collection policy with its customer

Question 4

Types of businesses

Answer 4

Sole proprietorship
Partnerships
Corporations

Question 5

Agency Problems

Answer 5

Management may act in its own or someone else’s best interests, rather than those of the shareholder’s .

In these events occur, this may cause them to contradict the goal of maximizing the share price of the equity of the firm.

Question 6

What is the goal of financial management ?

Answer 6

To maximize the current market value (share price) of the equity of the firm (whether it’s publicly-traded or not)

Question 7

Corporate ownership

Answer 7

• shareholders are the owners
• shareholders elect board of directors
• BOD elects management
• separation can cause agency problem

Question 8

Chartered banks

Answer 8

Accept deposits and issue commercial loans, corporate loans, personal loans and mortgages

Question 9

Trust companies

Answer 9

Accept deposits and make loans, but also engage in fiduciary activities such as managing assets for estates, registered retirement savings plans, etc.

Question 10

Investment dealers

Answer 10

Non-depository institutions that assist firms in issuing new securities

Question 11

Insurance companies

Answer 11

Engage in indirect financing by accepting funds in a form similar to a deposit and making loans

Question 12

Pension funds

Answer 12

Invest contributions from employers and employees in securities offered by financial markets

Question 13

Mutual funds

Answer 13

Pool individual investments to purchase a diversified portfolio

Question 14

Hedge funds

Answer 14

Cater to sophisticated investors and seek high returns by using aggressive financial strategies prohibited by mutual funds

Question 15

Money markets

Answer 15

Financial markets where short-term debt instruments are bought and sold

Question 16

Capital markets

Answer 16

Financial markets where long-term debt and equity securities are bought and sold

Question 17

Derivatives market

Answer 17

Where options and futures are traded on financial instruments and commodities

Question 18

Primary markets

Answer 18

Are where securities are sold for the first time (I.P.O)

Question 19

Secondary markets

Answer 19

Are where outstanding securities are sold

Question 20

Indirect finance

Answer 20

Funds are transferred from suppliers of capital to demander of capital through a financial intermediary.

Life insurance companies engage in indirect finance by accepting funds in a form similar to deposits and making longs.

Question 21

Direct finance

Answer 21

Funds are transferred from suppliers of capital to demander of capital but financial intermediaries are bypassed.

Question 22

Financial Engineering

Answer 22

The creation of new securities or financial processes.. This engineering could be used to package and sell risky assets to investors; for examples, banks can package and sell mortgages into mortgage backed securities and sell these on to other investors