Which one of the following statements is correct concerning the expected rate of return on an individual stock given various states of the economy?
A. The expected return is a geometric average where the probabilities of the economic states are used as th
C
The expected return on a stock that is computed using economic probabilities is:
A. guaranteed to equal the actual average return on the stock for the next five years.
B. guaranteed to be the minimal rate of return on the stock over the next two years.
C.
D
The characteristic line is graphically depicted as:
A. the plot of the relationship between beta and expected return.
B. the plot of the returns of the security against the beta.
C. the plot of the security returns against the market index returns.
D. the
C
The beta of a security is calculated by:
A. dividing the covariance of the security with the market by the variance of the market.
B. dividing the correlation of the security with the market by the variance of the market.
C. dividing the variance of the m
A
If investors possess homogeneous expectations over all assets in the market portfolio, when riskless lending and borrowing is allowed, the market portfolio is defined to:
A. be the same portfolio of risky assets chosen by all investors.
B. have the securi
D
The unexpected return on an asset or security is made up of:
A. market risk and systematic risk.
B. systematic risk and unsystematic risk.
C. idiosyncratic risk and unsystematic risk.
D. expected return and market risk.
E. expected return and idiosyncrati
B
A factor is a variable that:
A. affects the returns of risky assets in a systematic fashion.
B. affects the returns of risky assets in an unsystematic fashion.
C. correlates with risky asset returns in a unsystematic fashion.
D. does not correlate with th
A
Stockholders track ongoing developments in companies very closely. If a corporate announcement causes the price to change, therefore it will mostly be driven by:
A. the expected part of the announcement.
B. market inefficiency.
C. the unexpected part of t
C
What would be true about a GNP beta for a stock?
A. If a stock's ? GNP = 2.5, the stock will experience a 2.5% increase for every 1% surprise increase in GNP.
B. If a stock's ? GNP = -1.5, the stock will experience a 1.5% decrease for every 1% surprise de
A
If the expected rate of inflation was 2% and the actual rate was 6%; the systematic response coefficient from inflation, ?I, would result in a change in any security return of ___ ?I.
A. 2.0
B. 3.0
C. -3.0
D. 4.0
E. 5.0
D
The single factor APT model that resembles the market model uses _________ as the single factor.
A. arbitrage fees
B. GNP
C. the inflation rate
D. the market return
E. the risk-free return
D
A criticism of the CAPM is that it:
A. ignores the return on the market portfolio.
B. ignores the risk-free return.
C. requires a single measure of systematic risk.
D. utilizes too many factors.
E. None of these.
C
To estimate the cost of equity capital for a firm using the CAPM, it is necessary to have:
A. company financial leverage, beta, and the market risk premium.
B. company financial leverage, beta, and the risk-free rate.
C. beta, company financial leverage,
E
The weighted average cost of capital for a firm is the:
A. discount rate which the firm should apply to all of the projects it undertakes.
B. overall rate which the firm must earn on its existing assets to maintain the value of its stock.
C. rate the firm
B
Using the CAPM to calculate the cost of capital for a risky project assumes that:
A. using the firm's beta is the same measure of risk as the project.
B. the firm is all-equity financed.
C. the financial risk is equal to business risk.
D. Both using the f
D
The use of WACC to select investments is acceptable when the:
A. correlations of all new projects are equal.
B. NPV is positive when discounted by the WACC.
C. risks of the projects are equal to the risk of the firm.
D. firm is well diversified and the un
C
If the risk of an investment project is different than the firm's risk then:
A. you must adjust the discount rate for the project based on the firm's risk.
B. you must adjust the discount rate for the project based on the project risk.
C. you must exercis
B
If the project beta and IRR coordinates plot below the SML the project should be:
A. accepted.
B. rejected.
C. It is impossible to tell.
D. It will depend on the NPV.
E. None of these.
B
The formula for calculating beta is given by the dividing the ___________ of the stock with the market portfolio by the ___________ of the market portfolio.
A. variance; covariance
B. standard deviation; variance
C. expected return; variance
D. expected r
E
For a multi-product firm, if a project's beta is different from that of the overall firm, then the:
A. CAPM can no longer be used.
B. project should be discounted using the overall firm's beta.
C. project should be discounted at a rate commensurate with i
C
Comparing two otherwise equal firms, the beta of the common stock of an unlevered firm is ____________ than the beta of the common stock of a levered firm.
A. unrelated to
B. equal
C. less
D. greater
E. None of these.
C
If a firm has high fixed costs relative to all other firms in the same industry, a large change in sales volume (either up or down) would have:
A. a smaller change in EBIT for the firm versus the other firms.
B. no effect in any way on the firms, as volum
D
The notion that actual capital markets, such as the NYSE, are fairly priced is called the:
A. Efficient Markets Hypothesis (EMH).
B. Law of One Price.
C. Open Markets Theorem.
D. Laissez-Faire Axiom.
E. Monopoly Pricing Theorem.
A
The hypothesis that market prices reflect all publicly available information is called _____ form efficiency.
A. open
B. strong
C. semistrong
D. weak
E. stable
C
In an efficient market, the price of a security will:
A. always rise immediately upon the release of new information with no further price adjustments related to that information.
B. react to new information over a two-day period after which time no furth
D
Which one of the following statements is correct concerning market efficiency?
A. Real asset markets are more efficient than financial markets.
B. If a market is efficient, arbitrage opportunities should be rare.
C. In an efficient market, some market par
B
The U.S. Securities and Exchange Commission periodically charges individuals for insider trading and claims those individuals have made unfair profits. Based on this fact, you would tend to argue that the financial markets are at best _____ form efficient
C
Individuals that continually monitor the financial markets seeking mispriced securities:
A. tend to make substantial profits on a daily basis.
B. tend to make the markets more efficient.
C. are never able to find a security that is temporarily mispriced.
B
If the efficient market hypothesis holds, investors should expect:
A. to earn only a normal return.
B. to receive a fair price for their securities.
C. to always be able to pick stocks that will outperform the market averages.
D. Both to earn only a norma
D
An investor discovers that for a certain group of stocks, large positive price changes are always followed by large negative price changes. This finding is a violation of the:
A. guidelines of the Securities and Exchange Commission.
B. semistrong form of
E
The book value of the shareholders' ownership is represented by:
A. the sum of the par value of common stock, the capital surplus and the accumulated retained earnings.
B. the total assets minus the net worth.
C. the sum of the preferred stock, debt and t
A
The market-to-book value ratio is implies growth and success when it is:
A. stable over time.
B. growing faster than revenues
C. growing less than costs.
D. greater than 1.
E. less than 1.
D
Shareholders usually have which of the following right(s)?
A. To elect board members, the authorizing of new shares and other matters of great importance to shareholders such as being acquired.
B. To share proportionally in regular and liquidating dividen
D
Different classes of stock usually are issued to:
A. pay less in dividends between the classes of stock.
B. fool investors into thinking that any class of equity is equity and there is no difference in control or value features.
C. confer greater ownershi
C
Preferred stock has both a tax advantage and a tax disadvantage. These two are:
A. in default there are no taxes and dividends are taxed in corporate hands at 70%.
B. corporate dividends are taxed on 30% of the dividends received and expenses are deductib
C
The written agreement between a corporation and its bondholders might contain a prohibition against paying dividends in excess of current earnings. This prohibition is an example of a(n):
A. maintenance of security provision.
B. collateral restriction.
C.
D
There was an upward trend in the ratio of the book value of debt to the book value of debt and equity throughout the 1990s. Some of this was due to the repurchasing of stock. The market value ratio of debt to debt and equity exhibited no upward trend. Thi
C
Crestview Surfboards has 1,000 shares outstanding each with a par value of $1.00. If they are sold to shareholders at $12 each, what would the capital surplus be?
A. $100
B. $900
C. $9,000
D. $10,000
E. $11,000
E
Capital Surplus: ($12.00 - $1.00) * 1,000 = $11,000.
The proposition that the value of the firm is independent of its capital structure is called:
A. The capital asset pricing model.
B. MM Proposition I.
C. MM Proposition II.
D. the law of one price.
E. the efficient markets hypothesis.
B
The proposition that the cost of equity is a positive linear function of leverage in the capital structure is called:
A. the capital asset pricing model.
B. MM Proposition I.
C. MM Proposition II.
D. the law of one price.
E. the efficient markets hypothes
C
A manager should attempt to maximize the value of the firm by:
A. changing the capital structure if and only if the value of the firm increases.
B. changing the capital structure if and only if the value of the firm increases to the benefit of inside mana
A
In an EPS-EBI graphical relationship, with EPS (Earnings per share) on the y axis and EBI (earnings before interest) on the x-axis, the slope of the line capturing the relationship with debt is steeper than the slope of the line capturing the relationship
C
In an EPS-EBI graphical relationship, with EPS on the y axis and EBI (earnings before interest) on the x-axis, the line capturing the relationship with debt and the line capturing the relationship with equity (and no debt) ray cross. At this point the equ
D
When comparing levered vs. unlevered capital structures, leverage works to increase EPS for high levels of EBIT because:
A. interest payments on the debt vary with EBIT levels.
B. interest payments on the debt stay fixed, leaving less income to be distrib
C
MM Proposition I with corporate taxes states that:
A. capital structure can affect firm value.
B. by raising the debt-to-equity ratio, the firm can lower its taxes and thereby increase its total value.
C. firm value is maximized at an all debt capital str
D
The change in firm value in the presence of corporate taxes only is:
A. positive as equityholders face a lower effective tax rate.
B. positive as equityholders gain the tax shield on the debt interest.
C. negative because of the increased risk of default
B
MM Proposition I with taxes is based on the concept that:
A. the optimal capital structure is the one that is totally financed with equity.
B. the capital structure of the firm does not matter because investors can use homemade leverage.
C. the firm is be
D
MM Proposition II with taxes:
A. reveals how the interest tax shield relates to the value of a firm.
B. has the same general implications as MM Proposition I without taxes.
C. supports the argument that business risk is determined by the capital structure
B
. The costs of avoiding a bankruptcy filing by a financially distressed firm are classified as _____ costs.
A. flotation
B. direct bankruptcy
C. indirect bankruptcy
D. financial solvency
E. capital structure
C
The explicit and implicit costs associated with corporate default are referred to as the _____ costs of a firm.
A. flotation
B. default beta
C. direct bankruptcy
D. indirect bankruptcy
E. financial distress
E
The value of a firm is maximized when the:
A. cost of equity is maximized.
B. tax rate is zero.
C. levered cost of capital is maximized.
D. weighted average cost of capital is minimized.
E. debt-equity ratio is minimized.
D
The optimal capital structure has been achieved when the:
A. debt-equity ratio is equal to 1.
B. weight of equity is equal to the weight of debt.
C. cost of equity is maximized given a pre-tax cost of debt.
D. debt-equity ratio is such that the cost of de
E
The basic lesson of MM theory is that the value of a firm is dependent upon the:
A. capital structure of the firm.
B. total cash flows of the firm.
C. percentage of a firm to which the bondholders have a claim.
D. tax claim placed on the firm by the gover
B
Although the use of debt provides tax benefits to the firm, debt also puts pressure on the firm to:
A. meet interest and principal payments which, if not met, can put the company into financial distress.
B. make dividend payments which if not met can put
A
One of the indirect costs of bankruptcy is the incentive for managers to take large risks. When following this strategy:
A. the firm will rank all projects and take the project which results in the highest expected value of the firm.
B. bondholders exprop
C
What three factors are important to consider in determining a target debt to equity ratio?
A. Taxes, asset types, and pecking order and financial slack
B. Asset types, uncertainty of operating income, and pecking order and financial slack
C. Taxes, financ
D
Covenants restricting the use of leasing and additional borrowings primarily protect:
A. the equityholders from added risk of default.
B. the debtholders from the added risk of dilution of their claims.
C. the debtholders from the transfer of assets.
D. t
B
In order to value a project which is not scale enhancing you need to:
A. typically calculate the equity cost of capital using the risk adjusted beta of another firm in the same industry as the project before calculating the WACC.
B. typically increase the
A
Which capital budgeting tools, if properly used, will yield the same answer?
A. WACC, IRR, and APV
B. NPV, IRR, and APV
C. NPV, APV and Flow to Debt
D. NPV, APV and WACC
E. APV, WACC, and Flow to Equity
E
The flow-to-equity approach to capital budgeting is a three step process of:
A. calculating the levered cash flow, the cost of equity capital for a levered firm, then adding the interest expense when the cash flows are discounted.
B. calculating the unlev
C
The term (B x rb) gives the:
A. cost of debt interest payments per year.
B. cost of equity dividend payments per year.
C. unit cost of debt.
D. unit cost of equity.
E. weighted average cost of capital.
A
The weighted average cost of capital is determined by:
A. multiplying the weighted average after tax cost of debt by the weighted average cost of equity.
B. adding the weighted average before tax cost of debt to the weighted average cost of equity.
C. add
C