CORPORATE FINANCE Practice Exam 1 1) A) !

) %) &) ") ') The primary goal of a publicly-owned firm interested in serving its stockholders should be to Maximize expected total corporate profit Maximize expected "#$ Minimize the chances of losses Maximize the stock price per share Maximize expected net income (oe) who has substantial personal wealth and income) is considering the possibility of opening a new business in the chemical waste management field $he will be the sole owner The business will have a relatively high degree of risk) and it is expected that the firm will incur losses for the first few years *owever) the prospects for growth and positive income look good) and (ane expects to realize substantial cash flows from dividends the firm will eventually pay out +hich of the legal forms of business organization would probably best suit her needs, #roprietorship) because of ease of raising capital -egular corporation) because of the unlimited liability #artnership) to share costs and profits $ corporation) to en.oy tax advantages and gain limited liability *olmes Aircraft recently announced an increase in its net income) yet its net cash flow declined relative to last year +hich of the following could explain this performance, The company0s interest expense increased The company0s depreciation expense declined The company0s operating income declined All of the statements above are correct 1one of the statements above is correct +hich of the following would not cause an increase in net operating working capital, 3nventory increases Accounts receivable increases $hort-term investments increase Accounts payable decreases Accruals decrease *armeling "nterprises experienced a decline in net operating profit after taxes 516#AT) +hich of the following definitely cannot help explain this decline, $ales revenues decreased %ost of goods sold increased &epreciation increased 3nterest expense increased Taxes increased

A) !) %) &) /) A) !) %) &) ") 2) A) !) %) &) ") 4) A) !) %) &) ")

7)

A corporation can earn 8 4 percent if it invests in municipal bonds The corporation can also earn 9 4 percent 5before-tax) by investing in preferred stock Assume that the two investments have e:ual risk +hat is the break-even corporate tax rate which makes the corporation indifferent between the two investments, A) 18 74; !) '2 99; %) /< ''; &) 22 14; ") 2< //; *ayes %orporation has =/>> million worth of common e:uity on its balance sheet) and 7 million shares of stock outstanding The company0s Market ?alue Added 5M?A) is =17' million +hat is the company0s stock price, = '/ = /' = 4> = 88 =1/9 !ates Motors has the following information for the previous year@ 1et income A ='>>B 1et operating profit after taxes 516#AT) A =/>>B Total assets A =1)>>>B and Total operating capital A =9>> The information for the current year is@ 1et income A =4>>B 1et operating profit after taxes 516#AT) A =2>>B Total assets A =1)/>>B and Total operating capital A =<>> +hat is the free cash flow for the current year, =1>> ='>> =/>> =2>> =4>> #epsi %orporation0s current ratio is > 4) while %oke %ompany0s current ratio is 1 4 !oth firms want to Cwindow dressD their coming end-of-year financial statements As part of their window dressing strategy) each firm will double its current liabilities by adding short-term debt and placing the funds obtained in the cash account +hich of the statements below best describes the actual results of these transactions, The transactions will have no effect on the current ratios The current ratios of both firms will be increased The current ratios of both firms will be decreased 6nly #epsi %orporation0s current ratios will be increased 6nly %oke %ompany0s current ratio will be increased %ompany ( and %ompany E each recently reported the same earnings per share 5"#$) %ompany (0s stock) however) trades at a higher price +hich of the following statements is more correct, %ompany ( must have a higher #F" ratio %ompany ( must have a higher market to book ratio %ompany ( must be riskier %ompany ( must have fewer growth opportunities

8) A) !) %) &) ") 9)

A) !) %) &) ") <)

A) !) %) &) ") 1>) A) !) %) &)

11) A) !) %) &) ") 1') A) !) %) &) ") 1/) A) !) %) &) ") 12) A) !) %) &) ") 14) A) !) %) &)

%ompany - and %ompany $ each have the same operating income 5"!3T) and basic earning power 5!"#) ratio %ompany $) however) has a lower times-interest-earned 5T3") ratio +hich of the following statements is most correct, %ompany $ has a higher -6A %ompany $ has a higher net income %ompany $ has a higher interest expense %ompany $ has a higher debt ratio %ompany $ has a higher e:uity multiplier A firm is considering actions which will raise its debt ratio 3t is anticipated that these actions will have no effect on sales) operating income) or on the firm0s total assets 3f the firm does increase its debt ratio) which of the following will occur, -eturn on assets will increase !asic earning power will decrease Times interest earned will increase #rofit margin will decrease Total assets turnover will increase Gour are given the following information@ $tockholders0 e:uity A =1)'4>B priceFearnings ratio A 4B shares outstanding A '4B marketFbook ration A 1 4 %alculate the market price of a share of the company0s stock = // // = 84 >> = 1> >> = 177 78 = 1// /' A firm has a profit margin of 14 percent on sales of ='>)>>>)>>> 3f the firm has debt of =8)4>>)>>>) total assets of ='')4>>)>>>) and an after-tax interest cost on total debt of 4 percent) what is the firm0s -6A, 9 2; 1> <; 1' >; 1/ /; 14 1; Traditional financial statements are designed more for use by HHHHH and HHHHHHH than for HHHHHH and HHHHHH Therefore) certain modifications and re-calculations of the financials are used for corporate decision-making and stock valuations corporate officers) board of directorsB lenders) 3-$ managers) e:uity analystsB creditors) tax collectors institutional investors) funds managersB bankers) 3-$ creditors) tax collectorsB managers) e:uity analysts

17)

Assume the interest rates on long-term /> year bonds were as follows@ T-bond A 8 8'; A A < 72; AAA A 9 8'; !!! A 1> 19; The difference in rates among these issues were caused primarily by Tax effects) &efault risk differences Maturity risk differences 3nflation differences Answers b and d are correct Iiven the following data) find the expected rate of inflation during the next year kJ A real risk-free rate A /; Maturity risk premium on 1>-year T-bond A '; 3t is zero on 1-year bonds) and a linear relationship exists &efault risk premium on 1>-year) A-rated bonds A 1 4; Ki:uidity premium A >; Ioing interest rate on 1-year T-bonds A 9 4;

A) !) %) &) ") 18)

A) !) A) %) &) 19)

/ 4; 2 4; 4 4; 7 4; 8 4; Gour are given the following data@ kJ A real risk-free rate %onstant inflation premium Maturity risk premium &efault risk premium for AAA bonds Ki:uidity premium for long-term T-bonds A 2; A 8; A 1; A /; A ';

Assume that a highly li:uid market does not exist for long-term T-bonds) and the expected rate of inflation is a constant Iiven these conditions) the nominal risk-free rate for T-bills is HHHHHHHHHH And the rate on long-term treasury bonds is HHHHHHHHH A) !) %) &) ") 2;@ 2;@ 11;@ 11;@ 11;@ 12; 14; 12; 14; 18;

1<) Gou read in The Wall Street Journal that one-year T-bills are currently yielding 9 percent Gour brother-in-law) a broker at Eyoto $ecurities) has given you the following estimates of current interest rate premiums@ 3nflation premium Ki:uidity premium Maturity risk premium &efault risk premium !ased on these data) the real risk-free rate of return is A) !) %) &) ") >; 1; '; /; 2; 4; 1; '; ';

'>) Gou are interested in investing your money in a bank account +hich of the following banks provides you with the highest effective rate of interest, A) !ank 1B 9 percent with monthly compounding !) !ank 'B 9 percent with annual compounding %) !ank /B 9 percent with :uarterly compounding &) !ank 2B 9 percent with daily 5/74-day) compounding ") !ank 4B 8 9 percent with annual compounding '1) A) !) %) &) $uppose someone offered you the choice of two e:ually risky annuities) each paying =1>)>>> per year for five years 6ne is an ordinary 5or deferred) annuity) the other is an annuity due +hich of the following statements is correct, The present value of the ordinary annuity must exceed the present value of the annuity due) but the future value of an ordinary annuity may be less than the future value of the annuity due The present value of the annuity due exceeds the present value of the ordinary annuity) while the future value of the annuity due is less than the future value of the ordinary annuity The present value of the annuity due exceeds the present value of the ordinary annuity) and the future value of the annuity due also exceeds the future value of the ordinary annuity 3f interest rates increase) the difference between the present value of the ordinary annuity and the present value of the annuity due remains the same 3f =1>> is placed in an account that earns a nominal 2 percent) compounded :uarterly) what will it be worth in 4 years, A) =1'' >' !) =1>4 1> %) =1/4 21 &) =1'> <> ") =118 29

'')

'/) A) !) %) &) ") '2) A) !) %) &) ") '4) A) !) %) &) ")

3n 1<49 the average tuition for one year at an 3vy Keague school was =1)9>> Thirty years later) in 1<99) the average cost was L1/)8>> +hat was the growth rate in tuition over the />-year period, 1'; <; 7; 8; 9; $outh #enn Trucking is financing a new truck with a loan of =1>)>>> to be repaid in 4 annual end-ofyear installments of =')4>2 47 +hat annual interest rate is the company paying, 8; 9; <; 1>; 11; All of the following except one are problems or limitations with ratio analysis +hich 3$ 16T, -atios may be distorted by seasonal factors or manipulated by management via Cwindow dressingD 3nflation distorts financial statement results -atios are often not useful for analyzing operations of large firms which operate in many different industries +hen used by itself) ratio analysis provides strong insights into the company0s operations -atios that reflect average performance levels are not necessarily good

#-6!K"M$ 1 $wann $ystems is forecasting the following income statement for the upcoming year@ $ales = 4)>>>)>>> 6perating costs 5excl depr ) /)>>>)>>> Iross margin = ')>>>)>>> &epreciation 4>>)>>> "!3T = 1)4>>)>>> 3nterest 4>>)>>> "!T = 1)>>>)>>> Taxes 52>;) 2>>)>>> 1et income = 7>>)>>> The companyMs president is disappointed with the forecast and would like to see $wann generate higher sales and a forecasted net income of =')>>>)>>> Assume the operating costs 5excluding depreciation) are always 7> percent of sales Also) assume that depreciation) interest expense) and the companyMs tax rate) which is 2> percent) will remain the same even sales change +hat level of sales would $wann have to obtain to generate = ')>>>)>>> in net income, A= $10,833,333

'

A firm has total assets of =1)>>>)>>> and a debt ratio of /> percent %urrently) it has sales of =')4>>)>>>) total fixed costs of =1)>>>)>>>) and "!3T of =4>)>>> 3f the firm0s before-tax cost of debt is 1> percent and the firm0s tax rate is 2> percent) what is the firm0s -6", A=1.7%

Kone $tar #lastics has the following data@ 7 >; 9 >; Tax rate@ Total assets turnover@ 2>; />

Assets@ =1>>)>>> #rofit margin@ &ebt ratio@ 2> >; 3nterest rate +hat is Kone $tarrMs "!3T, A=$33,200

Gour are interested in saving money for your first house Gour plan is to make regular deposits into a brokerage account which will earn 12 percent Gour first deposit of =4)>>> will be made today Gou also plan to make four additional deposits at the beginning of each of the next four years Gour plan is to increase your deposits by 1> percent a year 5That is) you plan to deposit =4)4>> at t A 1) and =7)>4> at tN ') etc ) *ow much money will be in your account in five years, A=$44,873

%orporate Oinance #ractice "xam 1 1 & ' & / ! 2 % 4 & 7 % 8 & 9 % < & 1> A 11 % 1' & 1/ ! 12 & 14 & 17 ! 18 % 19 % 1< & '> & '1 % '' A '/ & '2 ! '4 & #-1 1>)9//)/// #-' 1 8; #-/ //)'>> #-2 22)98/