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FM (Test) > F Rote > Flashcards

F Rote Flashcards

1
Q

What produces the highest return on assets for a return on assets calculation?

A

The lowest denominator

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2
Q

How to calculate net book value?

A

Historic cost minus accumulated depreciation

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3
Q

How to calculate return on assets?

A

Net income / total assets

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4
Q

Effect on present value if market interest rates fall?

A

The present value of a loan note’s future cash flows will rise and with it the loan note’s market price

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5
Q

Why do market interest rates (yields) and market value of fixed income securities (loan notes) have an inverse relationship?

A

The market value of a loan note equals the present value of the fixed future payments it will make to the investor

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6
Q

What is the premise of behavioural corporate finance?

A

The idea that behavioural characteristics of managers will distort management judgment

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7
Q

An example of an illusion of control?

A

A manager who believes his actions will have direct effect on the stock market

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8
Q

What does the dividend valuation model assume? (equity)

A

Cost of equity will remain constant

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9
Q

What does the dividend valuation model assume? (share price)

A

Share price will change at the same rate as the dividend

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10
Q

What does a low price/earnings ratio indicate?

A

Earnings have limited growth potential

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11
Q

What does the P/E ratio indicate?

A

That investors are not anticipating high future earnings growth.

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12
Q

What does IFRS report (market value)

A

Carrying amount of equity not its market value

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13
Q

Why is market price irrelevant for a bonus issue?

A

An issue of new shares to existing shareholders for zero consideration

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14
Q

What does IFRS require for all leases longer than 12 months?

A

To be capitalised

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15
Q

What is the underlying assumption of the constant growth model?

A

Share price will grow at the same percentage rate as the dividend.

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16
Q

What form of market is when a share price reaction appears to have occurred before information concerning the new project was made public?

A

Suggests a strong form efficient market

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17
Q

Share price movements in a weak form market?

A

Appear to follow a random walk

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18
Q

Repeating patterns that appear to exist relate to which market type?

A

Completely inefficient

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19
Q

Attempting to trade on consistently repeating patterns is unlikely to work which market type?

A

Weak form efficient

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20
Q

Majority of share price reaction to news occurs when it is announced which market type?

A

Semi-strong firom efficient

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21
Q

Share price reaction occurs before announcements are made public which market type?

A

Strong form efficient

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22
Q

Inability to consistently outperform the market and make abnormal gains which market type?

A

Strong form efficient

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23
Q

What is useful for an asset-stripping acquisition?

A

An asset-based valuation

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24
Q

What are characteristics of a perfect market?

A

Shares are regularly traded and investors are rational

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25
Q

When is a control premium paid?

A

When buying a controlling stake, not a minority holding

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26
Q

Do scrip dividends reduce liquidity?

A

No, as they are paid in shares

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27
Q

What is meant by technical analysis?

A

Work on the basis that past price patterns will be repeated, so future price movements can be predicted from historical patterns

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28
Q

Risk linked to extent to which company’s profits depend on fixed rather than variable costs (business systematic or financial)

A

Business systematic

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29
Q

Risk that shareholder cannot mitigate by holding a diversified investment portfolio (business systematic or financial)

A

Business systematic

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30
Q

Risk that shareholder return fluctuates as a result of the level of debt the company undertakes (business systematic or financial)

A

Financial

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31
Q

Is DGM very sensitive to changes in growth rate?

A

YES

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32
Q

When can DGM only be used when valuating?

A

If dividends have been paid or are expected to be paid

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33
Q

How to calculate current market value of a convertible bond

A

HIGHER OF
Sum of the present value of the future interest payments

Present value of the bond’s conversion value

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34
Q

How can cost of equity be estimated for an unlisted company?

A

Using CAPM based on the beta of a listed company

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35
Q

When is growth expected in an efficient stock market?

A

When share price gets higher

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36
Q

What does dividend irrelevancy theory assume?

A

No tax

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37
Q

When are shares likely to be mispriced?

A

Information assymetry (where managers and investors have different levels of information)

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38
Q

What is meant by noise traders?

A

Investors who do not make investments on the basis of rational analysis

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39
Q

What risk does a good spread of shares minimise?

A

The risk in the portfolioand should ensure Mr Mays does achieve something approaching the average return for themarket

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40
Q

When can a higher PE ratio valuation be justified? (growth)

A

When the target company has higher growth prospects

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41
Q

When can a higher PE ratio valuation be justified? (target)

A

When the target is in an industry/country where the normal P/E ratio is higher than in the industry/country of the bidder

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42
Q

When can a higher PE ratio valuation be justified? (quality assets)

A

Better-quality assets might also be a reason for offering a price that values the target on a higher P/E

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43
Q

Effect of higher gearing ratios on P/E ratio?

A

Decreases it

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44
Q

An investor, who bases all his/her investment decisions on information he/she has gathered from published statements and comments on company plans and performance (which form of market is it)

A

Weak form efficient

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45
Q

What is efficient market hypothesis concerned with?

A

As to whether share prices are fair

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46
Q

What form of market is the existence of information content in dividends contradicts the idea that the stock market is which market?

A

Strong form market

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47
Q

When is a price/earnings ratio method or a discounted cash flow technique would be useful?

A

When the company is being bought for the earnings/cash flow that all of its assets canproduce in the future

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48
Q

What do asset-based measures using NRVs help with?

A

Identifying a minimum price in a takeover

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49
Q

When are asset valuation models useful?

A

When a company is going to be purchased to be broken up and its assets sold off

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50
Q

Should the earnings yield method and the dividend growth model should give similar values for a company?

A

NO

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51
Q

Should market capitalisation represents the maximum value for a company?

A

NO

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52
Q

Is the price/earnings ratio is the reciprocal of the earnings yield?

A

YES

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53
Q

Is the price/earnings ratio should be increased if the companybeing valued is riskier than the valuing company?

A

NO

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54
Q

Do share prices follow a random walk?

A

YES

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55
Q

WHich market forms believe in share prices following a random walk?

A

Weak, semi-strong and strong

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56
Q

Which terms explain why investors don’t make rational decisions?

A

Herding and noise traders

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57
Q

What is meant by the market paradox?

A

Investors must believe that stock markets are inefficient in order for the markets toact in an efficient manner

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58
Q

Which market form is “A financial manager believes that if information regarding his organisation is made public, it will not affect the share price as this information is already reflected in the current share price”

A

Strong form

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59
Q

Share price information and strong form efficient markets?

A

The share price will reflect all information regardless ofwhether it is in the public domain or not

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60
Q

Share price information and semi-strong form efficient markets?

A

The share price would quickly react to the information being made public

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61
Q

What valuation is useful for an asset-stripping acquisition?

A

An asset-based valuation

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62
Q

Can workforce be valued

A

No, as it is intangible

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63
Q

Do replacement costs measure deprival value?

A

No

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64
Q

What happens in perfect market shares?

A

They are regularly traded and investors are rational

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65
Q

When will a control premium be paid?

A

When buying a controlling stake

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66
Q

How are scrip dividends paid?

A

In shares and do not reduce liquidity

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67
Q

When buying a minority holding?

A

Have to pay a higher price per share to take control of company

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68
Q

Belief investors can make abnormal returns by studying past share price movements?

A

Technical analysis

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69
Q

When a company is listed (PE ratio)

A

It is more appropriate to use company’s own current P/E ratio

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70
Q

What form of risk is linked to the extent to which the company’s profits depend on fixed, rather than variable costs?

A

Business systematic

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71
Q

What form of risk is linked to shareholder cannot mitigate by holding a diversified investment portfolio?

A

Business systematic

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72
Q

What form of risk is linked to shareholder return fluctuates as a result of the level of debt company undertakes?

A

Financial risk

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73
Q

Is DGM sensitive to changes in the growth rate?

A

Yes

74
Q

When can DGM be used?

A

If dividends have been paid or are expected to be paid

75
Q

When does DGM have no use?

A

Where dividends are not paid

76
Q

How can cost of equity be estimated for an unlistede company?

A

Using CAPM based on the beta of a listed company

77
Q

What is expected when there is a high PE ratio?

A

Company is expected to grow

78
Q

What do shareholders expect in dividend growth?

A

A steady dividend growth

79
Q

Characteristics of an erratic dividend policy (indifference)

A

Indifference between dividend and capital growth

80
Q

Effect of information asymmetry?

A

Shares are likely to be mispriced

81
Q

Is it illegal for companies to issue shares or bonds at a discount?

A

Shares, not bonds

82
Q

What is investor return tied to?

A

Risk levels

83
Q

Coupon rates for deep discounted bonds are lower than for conventional bonds?

A

Yes

84
Q

What happens to bonds when interst rates rise?

A

Bonds paying out the same coupon rate as before become less attractive and their price will fall

85
Q

What should the theoretical price be in market imperfections?

A

Should be the market price

86
Q

What is market value of bond prices equal to?

A

PV of future receipts discounted at the investors’ required return

87
Q

Why is book value a meaningless figure for asset based methods of business valuation?

A

As it is based on historical costs

88
Q

What do asset based methods of business valuation ignore?

A

Intangible non-SFP assets such as loyal customer base

89
Q

The most appropriate price for the seller to consider for the sale of the business as agoing concern for asset based methods of business valuation?

A

The break-up value rather than the replacement value

90
Q

4Ts on dividends?

A

4Ts will accept a lower level of dividends on the convertible preference sharescompared to normal preference shares

91
Q

4Ts and CAPM?

A

4Ts are likely to prefer to use CAPM in valuing Loki shares

92
Q

Best valuation method for a capital intensive business?

A

Net realisable value of assets

93
Q

What does a strong form market imply for shares?

A

Shares are fairly priced, even taking into account secretinformation

94
Q

What does a semi-strong form market assume for secret information?

A

Would enable an investor to outperform the market by identifying undervalued companies

95
Q

What information does a semi-strong market incorporate?

A

All publicly available information in share price

96
Q

What should an investor to when developing a portfolio (CAPM)

A

Where the anticipated return exceeds CAPM required return

97
Q

What should compensate investing in companies with higher beta factors?

A

By appropriately higher returns than for lower risk companies

98
Q

How is a decision by owner/managers how to take funds out of a company isusually made?

A

To reduce tax

99
Q

When is using asset valuations a bad indicator of market value?

A

For a service industry that is not capital intensive

100
Q

Are DCFs the best valuation method?

A

Yes

101
Q

Issue with dividend valuation model (valuing majority)?

A

Is less useful for valuing a majority stake

102
Q

What is net realisable value?

A

An indicator of the minimum amountthe current owners will want for their company

103
Q

What unreasonable assumption does dividend valuation model make?

A

That average dividend growth is constant

104
Q

What can insider information not be used for?

A

Make abnormalgains in a strong form efficient capital market

105
Q

How do share prices react in a weak form efficient market?

A

Share prices react more slowly than in a semi-strong form efficient one

106
Q

What do shares prices react quickly and accurately to in a semi-strong form efficient market?

A

Newly-released information about a company

107
Q

What determines the share price?

A

Capital market supply and demand for shares

108
Q

Is there an obvious pattern when analysing past movements in a share price?

A

There is no obvious pattern

109
Q

Dividend growth model assumptions (decisions)

A

Investors make rational decisions

110
Q

Dividend growth model assumptions (constant)

A

Dividends show either constant growth or zero growth

111
Q

Dividend growth model assumptions (rate)

A

The dividend growth rate is less than the cost of equity

112
Q

Why might valuations of the equity and loan notes of company be necessary (additional)

A

Company is planning to go to the market for additional finance

113
Q

Why might valuations of the equity and loan notes of company be necessary (takeover)

A

The company has received a takeover bid from a rival company

114
Q

What valuations are useful in asset-stripping acquisitions?

A

Asset-based valuations

115
Q

Do asset based valuations take into future incomes or cash flows

A

No

116
Q

What is deprival value the lower of in asset based valuations?

A

Replacement cost and recoverable value

117
Q

How do investors react to news in an efficient market?

A

Rationally to news, whether expected or not

118
Q

Issue with low trading levels for a company?

A

Market will struggle to come to an efficient equilibrium price for the shares

119
Q

When is a control premium paid?

A

On shares when buying a controlling stake

120
Q

How to scrip dividends affect shares?

A

Increase the liquidity of shares as there are more shares in issue

121
Q

Why is an unlisted company more difficult to value?

A

As there is no market price to use as a guide

122
Q

Insider trading in a semi-strong form efficient market?

A

Occur between the time that new information about the business happens and the time that the news is released to the public

123
Q

How is share price based off of in semi-strong form efficient markets?

A

It is based on publicly available information

124
Q

Is tax rate applied when valuing preference shares?

A

No

125
Q

Are redeemable preference shares classified as debt or equity?

A

Debt

126
Q

Are preference shares a good way of raising finance?

A

No as they are not tax-efficient

127
Q

Issue with preference shares that have a variable rate of dividend?

A

Are difficult to value

128
Q

Share buyback and number of issued shares?

A

Decreases the number of issued shares and reduces marketability

129
Q

What does random walk theory suggest?

A

Share price movements cannot be forecast

130
Q

What can prevent a share price dropping when it has cut its dividend?

A

Market expectations of good future prospects

131
Q

What does the momentum effect suggest?

A

Investors must buy shares in the belief that a recent rise in share prices will continue into the future

132
Q

What do share price anomalies undermine?

A

The perfect capital market theory

133
Q

Advantage to a company of issuing convertible loan notes (interest)

A

Lower annual interest expense compared to non-convertible loan notes

134
Q

Disadvantage to a company of issuing convertible loan notes (EPS)

A

Dilution of EPS upon covnersion

135
Q

Disadvantage to a company of issuing convertible loan notes (holder)

A

Loan note holder can choose whether to redeem or covert the loan notes

136
Q

Advantage to a company of issuing convertible loan notes (equity)

A

New equity finance raised upon conversion

137
Q

How can governments keep interest rates low (money market)

A

By purchasing short-dated government bills in the money market

138
Q

Why does the normal yield curve slope upward (compensation)

A

To reflect increasing compensation to investors for being unable to use their cash now

139
Q

Market price when buying treasury bills?

A

Their market price rises and the yield (market interest rate) falls

140
Q

What do interest rate options give the holder?

A

The right but not the obligation to exercise the option.

141
Q

What is an FRA?

A

A customised contract between a bank and its client and provides a fixed interest rate for a fixed period in the future

142
Q

What are forward rate agreements the interest rate equivalent of?

A

Forward exchange contracts

143
Q

Why is it not always possible to completely hedge interest rate exposure using interest rate futures?

A

Fixed contract sizes and durations

144
Q

Does interest income offset interest expenses?

A

Yes

145
Q

How do share options reward managers?

A

Due to general stock market momentum rather than the company’s specific performance

146
Q

How can EPS be increased (share)

A

Share consolidation which has no effect on wealth

147
Q

What are financial intermediaries?

A

institutions that connect borrowers with lenders

148
Q

How does a crowdfunding platofmr work (investors)

A

puts investors directly in contact with business ventures, rather than taking deposits

149
Q

What does profit only deduct?

A

Debt financing costs

150
Q

What sharheolder wealth related to?

A

PV of future cash flows than profit

151
Q

How does EPS increase for a share repurchase scheme

A

Shares would then be cancelled, leaving fewer shares in issue

152
Q

What is a share repurchase scheme?

A

Company uses surplus cash to buy-back its own shares from investors

153
Q

What happens if total value of equity falls?

A

Leading to an increase in financial gearing

154
Q

What happens for increase in operating profit exceeds the increase in interest expense? (loan note issuance)

A

Earnings per share

155
Q

Cost of equity in a loan note issuance?

A

Rise due to increased financial risk

156
Q

Tax shield in a loan note issuance?

A

Increase because of tax-allowable interest expense

157
Q

What is the discounted payback period?

A

Time taken for the cumulative net present value to change from negative to positive

158
Q

How would expected NPV only be achieved?

A

If a project is repeated many times into the future

159
Q

Are government restrictions related to soft or hard capital rationing?

A

Hard

160
Q

What do asset replacement cycles require?

A

Cash flows to be discounted using an appropriate discount rate that reflects the risk of the project

161
Q

What cash flows are discounted at the after-tax cost of debt?

A

Financing cash flows

162
Q

if share prices reflect all information about the company, including material non-public (insider) information. What sort of market is it?

A

Strong form

163
Q

Overvaluation and PE ratio?

A

Increases it

164
Q

What does a fall in payout lead to?

A

Higher reinvestment back into the business and higher growth

165
Q

What may a share buy-back programme lead to?

A

Lower total earnings as there would be less capital invested in the business

166
Q

If the company is currently below its optimal level of gearing?

A

Additional debt would reduce WACC

167
Q

If the company is currently above its optimal level of gearing?

A

Additional debt would increase WACC

168
Q

An investor cannot make abnormal returns by using technical analysis (which form of market)

A

Weak-form efficient

169
Q

What does allocational efficiency ensure?

A

Capital markets direct funds to their most productive use

170
Q

Share prices in a semi-strong form efficient market?

A

Share prices reflect all historic data about the share and all materials publicly available information about the company that issued the share

171
Q

What is an asset-based valuation useful for?

A

An asset-stripping acquisition

172
Q

When are shares likely to be mispriced?

A

Where managers and investors have different levels of information (information asymmetry)

173
Q

Is tax rate applied when valuing preference shares?

A

No

174
Q

Are preference shares a tax-efficient way of raising finance?

A

No

175
Q

What are redeemable preference shares classed as?

A

No

176
Q

When are preference shares difficult to value?

A

When they pay a variable rate of dividend

177
Q

What do market expectations of good future prospects mean?

A

Share price of a company can rise even when it has cut its dividend

178
Q

What does a share buyback decrease?

A

Number of issued shares

179
Q

What does the momentum effect suggest?

A

Investors may buy shares in the belief that a recent rise in share prices will continue into the future

180
Q

What do share price anomalies undermine?

A

Perfect capital market theory

FM (Test) (8 decks)

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