FIN622 MCQs with References

FIN622- Corporate Finance

FINAL TERM EXAMINATION Spring 2010

PAPER # 1 (Session - 1)

Q1. Which of the following statements is TRUE regarding Profitability Index?

 It ignores time value of money  It ignores future cash flows It ignores the scale of investment P # 36 Like IRR it is a percentage and therefore ignores the scale of investment.  It ignores return on investment

Q2. Which of the following is a tool that identifies the strengths, weaknesses, opportunities and threats of an organization?

 SWOT Analysis P # 1  Trend Analysis

Q3. If sensitivity analysis concludes that the largest impact on profits would come from changes in the sales level, then which of the following recommendations should be considered?

 Fixed costs should be traded for variable costs  Variable costs should be traded for fixed costs.  The project should not be undertaken.  Additional marketing analysis may be beneficial before proceeding.

Q4. The employment of fixed costs associated with the actual production of goods or services is known as:

 Financial leverage  Volume discounting  Operating leverage Slide # 13  Covariance

Q5. Which one of the following terms refers to the variability of return on stocks or portfolios, associated with changes in return on the market as a whole?

 Unsystematic risk  Unique risk

 Systematic risk

 Company specific risk

Q6. What will be the taxable income of an Un-levered firm, if it has Earnings before Interest and Tax (EBIT) equal to Rs. 50,000 and its tax rate is 35%?

 Rs 25,000  Rs. 45,000  Rs. 50,000 Earnings before Taxes (EBT) = Taxable Income = Accounting Income (Economic Income)  Rs. 60,000

Q7. Which of the following statements is TRUE regarding temporary working capital?

 Temporary working capital varies with seasonal requirements P # 90

 Temporary working capital is the constant component of working capital.  Temporary working capital excludes inventories.  Temporary working capital should be financed with bonds or common stock Temporary working capital is the amount of investment in current assets that varies according to the seasonal requirements. OR The temporary or varying working capital varies with the volume of operations. It fluctuates with the scale of operations. This is the additional working capital required from time to time over and above the permanent or fixed working capital. During seasons, more production/sales take place resulting in larger working capital needs. The reverse is true during off-seasons. As seasons vary, temporary working capital requirement moves up and down. Temporary working capital can be financed through short term funds like current liabilities. When the level of temporary working capital moves up, the business might use short-term funds and when the level for temporary working capital recedes, the business may retire its short-term loans

Q8. Which of the following describes the hedging approach to financing?

 Maturity dates of financing instruments are spread over a period of time so that they mature in a steady, predictable fashion.  Each asset is offset with a financing instrument of the same approximate maturity.  Each asset is offset with a put or call option.  The firm takes out insurance to protect itself against uneven cash flows.

Q9. According to the Miller Model, upper limit for cash balance is equal to which of the following?

 Lower limit + Spread P # 96  Spread – Lower limit  Optimal limit + Lower limit  Lower limit – Spread

Q10. Suppose that the sale (usage rate) on an item gets doubled. The EOQ for that item should be:  Halved

 Unaffected  Decreased

 Increased

Q11. A firm wants to acquire another firm by purchasing its assets. Which of the following methods firm can use to evaluate the financial aspects of this deal?

 Replacement cost method P # 118  Dividend valuation method  Present value method  Price earnings ratio method Replacement cost, where you evaluate what it would cost you to replace all of the assets that a firm has today.

Q12. In which of the following acquisition strategies, a purchaser has complete knowledge of the acquiring firm?

 Management buyout P # 123  Consolidation  Amalgamation

Q13. Which one of the following statements is CORRECT regarding exercise price?

 Exercise price is the price mentioned in the option at which the holder exercises his

right P # 139  Exercise price is the price mentioned in the option at which the holder exercises his obligation  Exercise price is the price mentioned in the option at which the option seller exercises his right  Exercise price is the price mentioned in the option at which the option writer exercises his right Strike or exercise price - The price mentioned in option at which the holder exercises his right is known as exercise or strike price.

Q14. Which one of the following statements is CORRECT regarding Options Contacts?

 A put option gives the holder a right to sell underlying item at a specified price P # 139  A put option gives its writer the right to sell underlying item at a specified price  A call option gives its writer a right to sell underlying item  A call option gives its holder a right to sell underlying item Put option gives its holder a right (not obligation) to sell underlying item at specified price.

Q15. If market interest rate increases above the agreed rate in an interest rate option, the effective interest rate for the option holder would be:

 Less than the market rate P # 143  Greater than market rate  Equal to the market rate  Zero Interest Expense: by the loan amount. This effective interest rate is less than the rate prevailing in the market.

Q16. Which one of the following techniques can reduce the risks and disadvantages of share purchase method in mergers and acquisitions?

 Spin-off  Hive-down P # 114  Hubris  Off-shoot There is a technique called hive down which can reduce the risks and disadvantages of share purchase method.

Q17. The financial consideration to be paid to target company in mergers can be classified in to the following categories EXCEPT:

 Cash

 Assets P # 114

 Share – ordinary or preference  Debt The financial consideration to be paid to target company in mergers can be classified in to following categories:

1. Cash; 2. Share – ordinary or preferences & 3. Debt

Q18. Which of the following types of dividend policies results in the most volatile dividend payments and stockholder discomfort?

 Target dividend-payout policy  Low-regular-and-extra dividend policy  Regular dividend policy

 Constant payout-ratio dividend policy P# 74

Constant dividend payout (div per share/EPS) A fixed %age is paid out as dividend. Under this policy the dividend amount will vary because the net income is not constant. Thus results in variability of return to investors. The dividends may drop to nil in case of loss. Market price of share will lower.

Q19. Suppose you invested Rs. 8,000 in a savings account paying 5 percent interest a year, compounded annually. How much amount your account will have at the end the end of four years?  Rs. 10,208

 Rs. 9, 728 P#13  Rs. 10,880  Rs. 9,624

Q20. If you deposit Rs. 12,000 per year for 16 years (each deposit is made at the beginning of each year) in an account that pays an annual interest rate of 15%, what will your account be worth at the end of 16 years?

 Rs. 82,168.44  Rs. 71,450.82

 Rs. 768,901.12

 Rs. 668,609.67 Fv = p x (((1 + i) ^ n - 1) / i) x (1 + i) P =12000 i = 15% n = 16 Fv = p x (1 + 0.15) ^ 16 - 1) / 0.15) x (1 + 0.15) 12,000 x (1 .15) ^ 16 - 1) / 0.15) x (1 .15) 12,000 x (9.357620873 - 1) / 0.15) x (1 .15) 12,000 x (8.357620873) / 0.15) x (1 .15) 12,000 x (55.71747249) x (1 .15) 12,000 x (64.07509336) 768,901

Q21. Which of the following statements would be CORRECT regarding nominal interest rate when inflations are expected to occur over the foreseeable future?

 Nominal interest rate would be equal to real interest rate

 Nominal interest rate would be more than real interest rate P #20

 Nominal interest rate would be half of real interest rate  Nominal interest rate would be less than the real interest rate If inflation in the economy has been 10% in the year, then the $110 in the account at the end of the year buys the same amount as the $100 did a year ago. The real interest rate, in this case, is zero. Real interest rate moves in the opposite direction of both nominal interest rate and inflation.

Q22. Which of the following is a method of evaluating securities by analyzing statistics generated by market activity, such as past prices and volume?

 Common size analysis