Additional Study Guide PDF

How do you calculate the change in retained earnings? Net Income-Dividends Which of the following is generally true? Operating income and EBIT are the same EBIT=Earnings before interest and taxes. Used to measure a firm’s operating income. Which components are part of total assets? Cash accounts rec...

How do you calculate the change in retained earnings? Net Income-Dividends Which of the following is generally true? Operating income and EBIT are the same EBIT=Earnings before interest and taxes. Used to measure a firm’s operating income. Which components are part of total assets? Cash accounts receivable, inventory, long-term assets Which components are part of current assets? Inventory, cash, accounts receivable, short-term investments Which components are part of total liabilities? Bonds, accounts payable, mortgage Why is the balance sheet known as a permanent statement? Because the other statements reset at the end of the fiscal year A basic equation for the balance sheet is? Equity = Assets – Liabilities When fixed assets increase, what happens to cash? Cash decreases Which is the purpose of the statement of cash flows? Explains the change in cash balance for a period of time. The OIROI (Operating Income Return on Investment) uses what elements on the income statement? EBIT, Total Assets Why would a company be interested in the TAT (Total Asset Turnover) ratio? How efficient assets are at producing sales Which of the following gives the largest effective rate (APY-annual percentage yield)? 18.6% compounded daily What does the beta coefficient represent? It is a statistically-derived measure of volatility Why is depreciation expense taken out of the net income calculation, yet added back at the end? Because depreciation expense is tax deductible Why is the NPV preferred over the IRR? It measures the dollar value. It is more reliable. What does the degree of Financial leverage indicate? The reliance on debt If a company has a high degree of financial leverage, what does that tell us about the firm’s risk profile? Higher profits to shareholders What is the cash cycle? The amount of time to regenerate cash Why is float important to understand? The time cash expenditures What should a company do to manage its working capital? Collect quickly and pay slowly What would be a source of information to determine replacement cost? Building Appraisal What does the Sarbanes-Oxley Act require companies to do? Have internal control audits FINRA (Financial Industry Regulatory Authority) does the following: Prosecutes naughty stockbrokers If a product is made 100% domestically, what can affect its domestic market? International competition If a company makes its product in a foreign country where labor costs are much lower, what happens? Profits go up and domestic employment decreases If the value of a dollar increases, the price of imports: Decreases Why would a farmer buy a hedge when he signs a contract to sell produce Overseas? To reduce currency risk Suppose the inventory turnover of a company is higher than the industry. Based on this observation, which of the following is most likely? The firm has too little inventory resulting in lost sales or stock-outs If the company wishes to obtain a bank loan, will it want to have higher current ratio or a lower current ratio? Higher If an investor knows the idiosyncratic risk, the investor knows the: Beta coefficient Why would we reject a project based on the NPV (Net present value)? The NPV is a negative number Why would we reject a project based on the IRR (internal rate of return)? The discount rate is higher than the IRR Company A wishes to keep 20% of its assets as cash. Company B keeps its cash balance at 5% of assets. Which of the following statements apply? Company B invests in more working current assets Company A offers trade credit of 2% 10/ net 30 and company B offers trade credit at net 30. What can be said about the credit policies of each company? Company A can attract more customers Which of the following characterizes a collection float? Increased float indicates slower processing time Company A’s inventory is larger than Company B. Both companies are competitors and are about the same size. What does this difference mean from a working capital management standpoint? Company B might have higher inventory turnover In regards to Accounts payable balances, which of the following is true? Paying off A/P on the last day due is a good policy. If two companies have earnings of $2,000,000 and company X has a multiple of 1.2 and Company Z has a multiple of 2.0, what can we estimate about the value of each company? The value of company Z is higher Dodd-Frank regulates which segment of the US economy? Banking industry The SEC (securities and exchange commission) requires companies to do the following: Register all public offerings. Regulate stock sales Economics is a subfield of finance: True or False? False Capital is defined as a financial asset: True or False? True Stocks and bonds are 2 types of financial instruments: True or False? True Primary financial markets are markets where issuers place new securities with investors: True or False? True An IPO (initial public offering) occurs on the primary market: True or False? True An IPO is a seasoned equity offering: True or false? False Syndicates are generally made up of investment banks and other institutional investors: True or False? True While competitive sales allow underwriters to submit bids to purchase bonds, negotiated sales do not: True or False? False NASDAQ is the world’s largest secondary financial market: True or False? False Auction markets have a physical location: True or False? True Dealer Markets have physical location: True or False? False NASDAQ is an example of an auction market: True or false? False Stocks that are listed on dealer markets generally have a single dealer for each stock: True or False? False Markets are where prices are determined: True or False? True The NYSE specialist has an objective to provide liquidity to the market: True or False? True The NYSE specialist will charge a higher price to sellers of the stock and a lower price to the buyer of the stock: True or False? False The bid-ask spread is compensation to the specialist for providing liquidity to the market: True or False? True A market order to buy a stock would execute at the current ask rate: True or False? True A market order to sell a stock would execute at the current ask rate: True or False? True A limit order to buy a stock at $101.55 would execute at the current ask price: True or False? False A limit order to buy a stock at $101.55 would execute when the ask price is at or below $101.55: True or False? True Efficient markets are those in which prices are volatile: True or False? False Efficient markets will often have mispriced securities: True or False? False Inefficient markets are those in which prices will respond quickly to new information: True or False? False Because in an inefficient market all available information is built into the price of a stock, investment patterns and trends to “get rich quickly” are not easily discernible and it is difficult to predict the price: True or False? True In an inefficient market, prices will slowly respond to new information: True or False? True In an efficient market, new information will move prices almost immediately: True or False? True What is the relationship between WACC (weighted average cost of capital) and IRR (internal rate of return)? IRR must exceed WACC to accept investment What is the relationship between NPV (Net present Value) and IRR (Internal rate of return)? If discount rates equals IRR, NPV is equal to zero If a firm's financial and operating leverage is high, what is the implication? Profits are more volatile as sales fluctuate. If an industry, such as autos, has very high fixed costs and very cyclical sales, what is the implication for financial leverage? Use low financial leverage to offset high operating leverage The SGR measures: Potential sales growth with internal funding The SEC requires public companies to do the following: File audited financial statements to the SEC What does the Sarbanes-Oxley Act require companies to do? Have internal audit Controls If a company produces and sells a product only in the US, what international developments may affect its sales? Imports of competing products The SEC requires the following to file audited financial statements: All publicly-traded companies Which best describes conceptually the valuation of all financial assets in financial markets? The NPV of anticipated cash flows Which accurately describes an “efficient” market? Deviations from “fair value” are quickly eliminated If a firm's goal is to maximize stockholder wealth, which would the firm avoid? Investments with negative NPV If you wanted to evaluate a non-public company, what sources would you use? The PE of a comparable public company Which section of the statement of cash flows describes the production and sales of the firm’s product? Cash Flow operations For calculating cash flows, why is depreciation added to net income? Depreciation is a non-cash deduction The fundamental concept underlying the valuation of all financial assets is: The present value of anticipated cash flows What explains the size of the yield spread of junk bonds over treasury? It is the value of the expected default loss What does the beta measure? The relative riskiness of an individual stock What is the most effective use of financial statements in valuing a stock? Use data to estimate future earnings If market interest rates rise, what impact does it have on a given bond? Its price decreases What impact did the recent corporate tax cut have on a firm's WACC (weighted average cost of capital)? It increased WACC Why do firms often use “sensitivity” tests in analyzing investment projects? Uncertainty of forecast assumptions If debt is less costly than equity, why don’t firms maximize debt use? Excessive debt increases risk of bankruptcy Why does a firm's investment opportunities affect its dividend payout ratio? Maximization of shareholder wealth strategy. Limited access to market financing. Attempts to increase stock price. If two annuities have the same payments and term, why is an Annuity Due more valuable than an Ordinary Annuity? Annuity Due payments occur earlier What is the impact of rising interest rates on foreign exchange? Increases the value of USD In cash flow statements, which section reflects so-called “spontaneous” accounts which vary with sales? Cash flow operations What are the practical disadvantages of the Gordon model for equity valuation? How to use it if no dividends are paid. Must project dividends “forever” into the future. Does not address the appropriate discount rate. What factor determines the “market risk premium” on stocks? The investor-perceived riskiness of stocks Why would a company buy back outstanding stock? To boost the price of stock. To increase financial leverage. Lack of investment opportunities. Which factor does NOT affect the firm's WACC (weighted average cost of capital)? The exchange rate Why should an investor diversify the portfolio? To achieve a better combination of risk and return. To avoid putting “all eggs in one basket”. Stock returns are a function of systematic risk. Which statement about a PE ratio is false? Low PE stocks are cheap If a firm cannot access markets sufficiently to meet their DFN (discretionary financial need), what strategies might they use. Slow growth rate. Lower dividend payout. Increase in net margin. Dodd-Frank regulates which segment of the US economy? Banking industry Which is not true of both stocks and bonds? Have voting rights The value of a corporation is best measured by: Market capitalization Which is not a component of the DuPont formula? Debt to Equity Ratio What metric converts FV (Fair Value) to PV (Present Value)? The discount rate The interest rate on a corporate bond does not reflect: Face Value PV (present value) ordinarily is less than FV (fair value). What would cause the opposite? Negative Interest rates Which would likely have the lowest price? Zero coupon bond Junk bonds are those whose rating is below: BBB Diversification protects against: Idiosyncratic risk Which is the best diversification for stock investment? Auto company and grocery chain If you are assessing a firm's ability to meet short term obligations, you would use which ratio? Quick ratio To assess firm efficiency, which ratio would you use? Asset turnover Which would have the highest value? Gross Margin Which is the most important profit ratio? Return on equity If the debt ratio increases, what effect does that have on ROE (return on equity)? ROE increases What is one way a firm maximizes shareholder value? By avoiding investments that cost more money than they bring in What is one of the two basic types of financial instruments? Stocks Why is it a challenge for a fund manager to review financial statements from other countries? Because the US Generally Accepted Accounting Principles (GAAP) and the international financial reporting varies. What is true about the content and structure of an income statement? It reports the revenues and expenses for a period of time What is true when income for tax purposes is higher than accounting income? Actual incomes taxes payable will be higher than accounting income tax payable What does the statement of cash flows report? A firm's cash balance and changes for a period of time What does net income measure that the cash flow from operating activities does not? Payments made to supplies of goods and services Which measure of cash flow is commonly used to evaluate the change in revenue and costs? Cash flow from operating expenses An analyst is comparing the ratios of two firms and needs to address accounting differences. What would be considered an accounting difference between the two firms? The firms use different inventory methods For the year 2013, a firm has a return on equity (ROE) that is greater than return on assets (ROA). Which conclusion would an analyst draw from these numbers? The firm is effectively using debt What is an example of an estimate used in recording transactions? Deciding the salvage value of a fixed asset when calculating depreciation expense What is the coupon rate (Yield) of a bond? The interest rate of the bond that is contractually set upon issuance If the coupon rate on a particular bond is higher than the market rate of a return, at what will the bond sell? At a premium Which securities are issued by the US federal government and are taxable at the federal level? Treasury bonds What is the current price of the bond, if the required rate of return on a bond is the same as the coupon rate? Equal to the par value of the bond If the current coupon rate on a bond is 6% and the bond is selling at a 5% discount, what is the yield to maturity of the bond? Equal to 6% How is a short term receivable, with the maturity of less than one year, carried on the balance sheet? As a current asset When is a company that has strong operating revenues and competent management a good investment? When the intrinsic value of the price per share is higher than the current stock price Thinking about levels of market efficiency quadrants. Which investment option should be selected assuming a prudent investor wants to maximize their expected return E(R)? Quad 1?; Quad 2? Quad 3? Quad 4? Quad 1 Which security type includes the right to vote for a board of directors? Common stock What makes the “efficient frontier” efficient? It maximizes the ratio expected return to risk What are 3 components required in calculating weighted average cost of capital (WACC)? The marginal tax rate. The value of preferred stock and debt. The firm's market value. What advantage does the Gordon growth model have compared to the capital asset pricing model (CAPM)? It provides an easier to understand and relatively accurate forecast when growth rates are stable How does the weighted average cost of capital affect a company’s growth Opportunities? The lower the cost of capital, the greater the growth opportunities Under which 3 conditions would a firm decide to reduce growth rate? When additional investor capital is not available. When capacity has been reached. When customers are dissatisfied with the company’s products. Which 3 changes would affect an estimate of differential cash flows? An increase in the estimated value of the new machine at the end of a project. A revision in the depreciation schedule. An increase in the overhead allocation. Why is it important to prepare an accurate fixed asset financing forecast? Firms producing above capacity may not require additional fixed asset investment to increase sales How is the value of a project determined in the capital budgeting process? The net present value of the incremental tax cash flows Company A has a high degree of business risk. What will be the effect on the company’s EBIT if the company suffers a slight decrease in sales? Large decrease in EBIT What effect does the method of financing investments have on the value of the firm? The method of financing alters the weighted average of the cost of capital Why would a company prefer equity financing over debt financing? Using equity to finance a capital investment project is less costly Which hybrid security has some elements that resemble equity and others that resemble debt? Preferred stock How do increases in market interest rates affect a firm's cost of capital? The cost of debt increases Which two ratios are used to evaluate a company’s working capital management? Receivable turnover. Cash ratio. Why should a company carry cash? Cash is needed for day-to-day operations What is a commonly used method that limits the time it takes between payment and the receipt of cash? Electronic check processing Some companies offer discounts to customers in order to give incentive for paying earlier than the due date. What two terms incentivize customers to accept trade discounts? Length of credit period. Amount of discount. Which 3 costs are associated with holding inventory? Storage costs, product costs, opportunity costs Which ratio is used in the comparable multiples method? Price earnings ratio Investors will often sell a stock that has gains rather than a stock that is suffering losses in their portfolio, despite subsidized tax relief when selling at a loss. What are the logic-defying behavioral implications of such a stock decision? Maintaining winning positions in the portfolio enhances future portfolio growth rate How are the Security and exchange commission’s Regulation S and Rule 144A similar? Both allow firms to raise capital without registering with the SEC if certain conditions are met What is the primary intent of the Sarbanes-Oxley Act? To ensure honest audit and accounting procedures Which element is required disclosure in the prospectus, according to the Securities Act of 1933? Audited Financial Statements Which condition must be met for a firm that trades in equities to be in compliance with the SEC regulations? Membership in FINRA (Financial Industry Regulatory Authority) Which practice is limited by the Volcker rule of the Dodd-Frank Act? Bank investments in hedge funds What is beta? An absolute measure of systematic risk What do investors, entrepreneurs and other market participants rely on the SEC to do? Determine safety and efficiency of investment by US and foreign investors What is one way a firm maximizes shareholder value? By avoiding investments that cost more money than they bring in What is one of the two basic types of financial instruments? Stocks The stock price of a company increases and the market is deemed efficient. What assumption can be made? A new, patented product was introduced to the market Which statement is true about how the global market affects the US? Foreign investors and fund managers make decisions based on financial reporting standards developed and financial statements audited overseas. What are secondary markets? Markets where securities are traded subsequent to the initial offering A special interest group in the US has been lobbying intensely for protectionism through increased tariffs and trade restrictions, with the argument that it will save jobs in the industry they represent. What is the most likely result if they are successful? Employees and shareholders of the domestic industry that produce the protected goods will benefit and the nation will be hurt What is true about the content of an income statement? It reports revenues and expenses for a period of time What is the basis used to compute a company’s income tax expense? Taxes payable A company’s trial balance shows $900 in long term debt. On which financial statement should this be shown? The balance sheet What do cash flows from financing activities generally relate to? A firm's debt and equity transactions What is true about the cash flow from operating activities section of the statement of cash flows? Increase in current liabilities accounts represents inflow of cash and should be added to net income Firms A and B are in the same industry. Firm A has a gross margin of.45 and Firm B has a gross margin of.36. Which conclusion would an analyst draw when comparing Firm A to Firm B? Firm A has a more efficient production process What is subordinated debenture? A bond that has a lower claim to the assets of the firm in the event of liquidation What is the difference between a secured and an unsecured loan? Secured loans require some form of collateral What is the intrinsic value of a stock? Net present value of expected future cash flows What is the relationship between annual percentage rate (APR) and Annual percentage yield (APY)? The APR will be greater than the APY if compounding happens more frequently than annually What is the priority order of repayment (first to last) to a company’s investors and creditors? Creditors, preferred stockholders, common stockholders Where on the “efficient frontier” is a young investor with a high risk tolerance likely to fall? D3 Supply and demand factors suggest the slope for an individual asset in the portfolio will equal the slope of the market portfolio itself. What is the significance of this equalization? Investors will be incentivized to hold the market portfolio What are the components required in calculating the weighted average cost of capital (WACC)? The value of the preferred stock and debt. The firm's market value. The marginal tax rate. How does the WACC affect a company’s growth opportunities? The lower the cost of capital, the greater the grown opportunity What are discretionary accounts? Accounts that requirement management to deliberately decrease and increase What is the purpose of the capital budget process? Deciding which projects increase the firm's value Firm A has a lower degree of business risk that Firm B. What will happen if there is a 1% increase in sales from both firms? It will result in a greater percentage in Firm B’s operating income. Modigilani and Miller's initial capital structure theory suggested that in the absence of taxes, bankruptcy costs and transaction costs, the firm's capital structure would not affect the WACC. What has been proven by subsequent research and inclusion of factors omitted in the initial theory? The firm's capital structure does affect the weighted average cost of capital and thus a firm's value Which strategy issues new debt within a company and takes the proceeds from the debt issuance to buy back some of the outstanding shares? Leverage Recapitalization Which type of bond gives an investor the right to trade each bond for a set number of shares of common stock whenever the investor chooses? Convertible bond A credit agency recently downgraded a company’s debt. What is the impact on the cost of debt? The cost of capital will increase Which term describes the amount of cash that a firm must hold as a safety net to counter future unforeseen expenses? Reserve balance Which ratio is used in the comparable multiple’s method? Price earnings ratio What must a firm have to be in compliance with Financial Industry Regulatory Authority (FINRA) Rules? Current and accurate books