Principle of Finance Unit 4 Challenges Sophia Course

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Unit no 4

                                          Challenge no 1

Theoretically, a company comparing multiple projects with similar investment requirements and durations would select projects with __________.

·a.)

a negative IRR

·b.)

the IRR that is closest to zero

·c.)

the highest IRR

·d.)

the lowest IRR

Theoretically, a company would dispense with plans for a long-term project whose net present value __________.

·a.)

is greater than one

·b.)

is less than one

·c.)

is zero or greater

·d.)

falls below zero

Theoretically, a company comparing multiple long-term projects would select to invest in those with __________ payback period.

·a.)

an initial

·b.)

the lengthiest

·c.)

the briefest

·d.)

an average

A company is considering investing $90,000 in a project with the following anticipated net cash flows:

·Year 1: $19,000

·Year 2: $12,000

·Year 3: $14,000

·Year 4: $22,000

·Year 5: $17,000

·Year 6: $13,000

 

In what year will payback occur?

·a.)

After Year 6

·b.)

Year 4

·c.)

Year 5

·d.)

Year 6

A company is considering investing $200,000 in a project with the following anticipated net cash flows:

·Year 1: $65,000

·Year 2: $50,000

·Year 3: $55,000

·Year 4: $35,000

·Year 5: $40,000

·Year 6: $50,000

 

In what year will payback occur?

·a.)

Year 3

·b.)

Year 6

·c.)

Year 5

·d.)

Year 4

A company is considering investing $35,000 in a project with the following anticipated net cash flows:

·Year 1: $10,000

·Year 2: $7,000

·Year 3: $6,000

·Year 4: $11,000

·Year 5: $15,000

·Year 6: $8,000

 

In what year will payback occur?

·a.)

Year 4

·b.)

Year 3

·c.)

Year 6

·d.)

Year 5

·

 

·

 

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·

 

 

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Select one advantage of IRR as a capital budget method.

·a.)

It is best used when liquidity is of primary importance when choosing a project.

·b.)

It allows for easy comparison between investment options.

·c.)

It does not require cash flow estimates.

·d.)

It accounts for the different value of money over time.

Select one disadvantage of IRR as a capital budget method.

·a.)

It is one of the more complicated capital budgeting methods.

·b.)

It can only be used to compare mutually exclusive projects.

·c.)

The IRR can be inaccurate due to risks related to reinvestment.

·d.)

It is difficult to draw comparisons to a company's minimum acceptable rate of return.

Select one advantage of IRR as a capital budget method.

·a.)

It is relatively simple and easily comprehensible.

·b.)

It is useful for comparing projects with different lifespans.

·c.)

It generates more accurate cash flow estimates.

·d.)

It tells a company how long it will take to recover their investment.

What is one disadvantage of NPV as a capital budget method?

·a.)

It is not very good at accounting for opportunity cost.

·b.)

It can be inaccurate because a company cannot adjust the discount rate when calculating NPV.

·c.)

It can only be used to assess a single investment and is not a comparative tool.

·d.)

There is disagreement about whether a project with a negative NPV should be approved or not.

What is one advantage of NPV as a capital budget method?

·a.)

It is particularly helpful for companies that are concerned with their liquidity.

·b.)

The NPV does not change regardless of what discount rate is assumed.

·c.)

It is easy to understand and interpret when making investment choices.

·d.)

It does not require forecasting, so it provides a more accurate analysis of an investment than other methods.

What is one advantage of NPV as a capital budget method?

·a.)

It is reliable because all NPV calculations use the same discount rate.

·b.)

It is more useful than IRR analysis when evaluating the efficiency of an investment.

·c.)

Most companies can rely on NPV analysis alone when making investment choices.

·d.)

It is a useful tool for comparing multiple investment options regardless of the duration of each.

 

 Although __________ is recorded as an expense on the cash flow statement, it is not included as part of cash flow in the capital budgeting process.

·a.)

depreciation

·b.)

an equipment purchase

·c.)

tax

·d.)

a sunk cost

__________, like research and development, that already occurred should not be part of cash flow analysis in the capital budgeting process.

·a.)

Financing cash flows

·b.)

Salvage values

·c.)

Sunk costs

·d.)

Replacement costs

When considering a replacement project, __________ must be included in the cash flow analysis.

·a.)

sunk costs

·b.)

depreciation

·c.)

salvage value

·d.)

unrecoverables

Which of the following is an example of a market risk for a company that manufactures automobiles?

·a.)

Rising tariffs that increase the price of automobiles sold overseas, thereby reducing demand

·b.)

Increasing costs in the supply chain of material, due to rising fuel costs

·c.)

Difficulty attracting workers with the requisite skills to meet production demands

·d.)

A union strike that halts production

Which of the following is an example of an operational risk for a company that manufactures automobiles?

·a.)

Falling profit margins due to stiff competition among automobile manufacturers

·b.)

Disruption to the supply chain of material, due to domestic unrest in the source country

·c.)

Consumers who purchase cars directly from the manufacturer missing loan payments

·d.)

An economic recession that causes people to stop buying new cars

Which of the following is an example of a financial risk for a company that manufactures automobiles?

·a.)

Rising tariffs that increase the cost of imported materials

·b.)

A car rental agency defaulting on a contract to buy a large volume of automobiles

·c.)

A drop in consumer demand due to widespread economic uncertainty

·d.)

New emissions regulations that require modifications to the production process

                                     Challenge no #2

Which of the following types of financing is typical for a business in its growth stage?

·a.)

Equity from an IPO

·b.)

Bank loans

·c.)

Seed money

·d.)

Issuing bonds

Which of the following types of financing is typical for a business in its mature stage?

·a.)

Issuing bonds

·b.)

Seed money

·c.)

Bank loans

·d.)

Expansion venture capital

Which of the following types of financing is typical for a business in its introduction stage?

·a.)

Equity from an IPO

·b.)

Issuing bonds

·c.)

Second-round venture capital

·d.)

Bank loans

Which of the following is true of venture capital?

·a.)

Venture capital investments typically last for 10-15 years.

·b.)

Reliance on proven and reliable technology is the most important measure that venture capitalists use to evaluate potential investments.

·c.)

Venture capital investors receive a return on their investment if a company is either purchased or issues a successful IPO.

·d.)

Venture capital is a form of debt, meaning investors lend capital to a company for a period of time.

Which of the following is an advantage of venture capital?

·a.)

Companies are obligated to repay venture capital funds, but at a much lower interest rate than a typical bank loan.

·b.)

Although venture capital investments are typically high risk, they offer the potential for large returns for investors.

·c.)

Once a company receives venture capital funding, it is free to operate without further interference or scrutiny.

·d.)

Venture capital investors are guaranteed a return on their investment, although the return can vary from small to quite large.

Which of the following is a disadvantage of venture capital?

·a.)

Companies that receive venture capital are more closely monitored by investors than they might otherwise be.

·b.)

Companies that receive venture capital transfer full ownership of the company to investors until the IPO.

·c.)

Venture capitalists do not have a method for diversifying their risk.

·d.)

Like a bank loan, venture capital must eventually be repaid, although the terms are more flexible.

Determine whether the following statement is true of a capital lease, an operating lease, neither or both.

 

"A commercial financing agreement in which the finance company legally owns an asset, but the company leases it for a small part of the asset's life."

·a.)

Operating lease

·b.)

Capital lease

·c.)

Both

·d.)

Neither

Determine whether the following statement is true of a capital lease, an operating lease, neither or both.

 

"A commercial financing agreement wherein the company owns the asset when the lease terminates."

·a.)

Both

·b.)

Operating lease

·c.)

Neither

·d.)

Capital lease

Determine whether the following statement is true of a capital lease, an operating lease, neither or both.

 

"A commercial financing agreement in which a company rents an asset like heavy equipment from a lessor."

·a.)

Capital lease

·b.)

Neither

·c.)

Both

·d.)

Operating lease

Which of the following is true of the securities underwriting process?

·a.)

Underwriters purchase securities from an issuer and then hope to sell them at a higher price.

·b.)

Underwriters facilitate the sale of securities by quoting both a bid price and ask price.

·c.)

Underwriters determine if a company is eligible to issue an IPO.

·d.)

Underwriters rate the creditworthiness of the issuer.

What type of risk does a securities underwriter assume from the issuer?

·a.)

The risk that the price of the security will be set too low

·b.)

The risk that the security will underperform on the open market

·c.)

The risk that the issuer will decide not to issue an IPO

·d.)

The risk that the issuer will default on the security

Which of the following is true of a market maker?

·a.)

Market makers are most necessary in liquid markets.

·b.)

Market makers help companies to determine the appropriate IPO stock price.

·c.)

Market makers seek a profit on the bid-ask spread.

·d.)

Market makers facilitate liquidity in the market by buying securities from an issuer undergoing an IPO.

What is one potential advantage of being a privately-held company?

·a.)

A private company typically has an easier time attracting employee talent.

·b.)

It puts the company in a better position to acquire other companies.

·c.)

Certain investors may find the ability to retain control over the company attractive.

·d.)

It is easier to raise large amounts of capital as a private company.

Select one reason why a company would want to go private.

·a.)

To increase the company's status

·b.)

To attain a higher level of investor involvement

·c.)

To have fewer administrative expenses associated with securities regulation

·d.)

To have a large base of anonymous shareholders

Select one reason why a company would want to go public.

·a.)

To undergo a leveraged buyout

·b.)

To benefit from investors who have expertise in the industry

·c.)

To have access to a large magnitude of funding

·d.)

To reduce reporting and registration costs

                                          Challenge no#3

Under which circumstance would a company want to reexamine its level of working capital?

·a.)

If a company has sufficient operating liquidity

·b.)

If a company has positive working capital

·c.)

If a company's current assets exceed its current liabilities

·d.)

If a company has excessive capital invested in the short term

A business that wants to increase its working capital can take what action?

·a.)

Decrease its cash on hand

·b.)

Increase its current assets

·c.)

Increase its current liabilities

·d.)

Decrease its current assets

What can a business that has too much working capital do to reduce it?

·a.)

Increase its current assets

·b.)

Decrease its current liabilities

·c.)

Reduce its inventory

·d.)

Relax its customer credit policy

 

 Which of the following is a goal of working capital management?

·a.)

To meet accounts payable as quickly as possible

·b.)

To finance inventory costs with bank loans rather than supplier credit

·c.)

To maximize the overall cost of capital

·d.)

To meet day to day expenses while minimizing the cost of holding cash

 

Which of the following is a goal of working capital management?

·a.)

To accumulate as much cash and cash equivalents as possible

·b.)

To balance profitability and liquidity in order to meet growth objectives

·c.)

To maximize profitability at the expense of liquidity

·d.)

To minimize the cash conversion cycle and, if possible, invert it

Which of the following is a goal of working capital management?

·a.)

To avoid underutilized free working capital

·b.)

To maximize liquidity without regard to profitability

·c.)

To set consumer credit policies that are consistent with those of competitors

·d.)

To delay the collection of accounts receivable as long as possible

A company with a 75-day operating cycle determines its cash conversion cycle using the following data:

·Inventory days: 50

·Receivable days: 25

·Payable days: 15

 

What is the company's cash conversion cycle?

·a.)

10

·b.)

90

·c.)

40

·d.)

60

A company has a 120-day operating cycle with 80 inventory days, 40 receivable days and 15 payable days.

 

What is their cash conversion cycle?

·a.)

55

·b.)

135

·c.)

25

·d.)

105

Consider the following data from a company's 90-day operating cycle:

·Inventory days: 65

·Receivable days: 25

·Payable days: 10

 

What is the cash conversion cycle for this company?

·a.)

30

·b.)

100

·c.)

50

·d.)

80

When managing collections, a company can make use of lockbox banking to __________.

·a.)

send invoices to customers more quickly

·b.)

increase processing float for customers' payments

·c.)

speed up the receipt of customers' payments

·d.)

decrease the number of customers that default on their payments

 

When managing its cash, a company can make use of float to __________.

·a.)

hold on to cash for as long as possible

·b.)

receive the benefits of check kiting

·c.)

reduce the amount of money they must disperse

·d.)

make payments promptly when they come due

With respect to disbursements, a company can manage their cash more efficiently by __________.

·a.)

paying with cash

·b.)

minimizing float time

·c.)

using lockbox banking

·d.)

making use of credit

In what way are debt securities, equity securities and derivatives similar?

·a.)

They can all be converted to cash with little difficulty.

·b.)

They all carry similar levels of risk.

·c.)

They generate equivalent returns.

·d.)

They are all fixed assets.

Which of the following describes derivatives, rather than debt securities or equity securities?

·a.)

They usually generate the lowest returns.

·b.)

Their value tracks with the performance of an underlying entity.

·c.)

They provide a company with easy access to capital.

·d.)

They are sold on a public exchange.

 

Which of the following describes debt securities, rather than equity securities or derivatives?

·a.)

They are sold on a public exchange.

·b.)

They do not have a fixed term.

·c.)

They typically generate the largest returns.

·d.)

They are generally the lowest-risk.

 

Place the following steps for developing a credit policy in the correct order of process: 

·A: The company decides that all payments must be made within 60 days.

·B: The company sets a minimum credit score for customers.

·C: The company decides it will hire a collection agency to help it recover past due accounts.

·a.)

A, C, B

·b.)

A, B, C

·c.)

B, A, C

·d.)

B, C, A

Place the following steps for developing a credit policy in the correct order of process:

·A: The company decides that it wants to prioritize a large volume of sales, even if it means accepting more bad debt 

·B: The company decides that if a customer fails to pay, they will not pursue legal action.

·C: The company decides that it's willing to offer payment terms of 3/10, Net 30.

·a.)

C, B, A

·b.)

B, C, A

·c.)

A, B, C

·d.)

A, C, B

Place the following steps for developing a credit policy in the correct order of process: 

·A: The company purchases trade credit insurance to protect against bad debts.

·B: The company decides to offer a discount to customers who pay within 15 days.

·C: The company decides that it wants to minimize its losses due to bad debts.

·a.)

C, B, A

·b.)

B, A, C

·c.)

A, C, B

·d.)

C, A, B

Which inventory technique measures inventory by dividing the total cost of goods available for sale by the total number of units in a period?

·a.)

LIFO

·b.)

FIFO

·c.)

ABC

·d.)

Average cost

What type of inventory do flour and milk represent for a baked goods business?

·a.)

Finished goods

·b.)

Raw materials

·c.)

Class A

·d.)

Work in process

Which inventory technique assumes that the inventory that was purchased earliest is sold first?

·a.)

ABC

·b.)

Average cost

·c.)

FIFO

·d.)

LIFO

Archie needs funding to start his dog walking business, so he takes out a bank loan that is secured against his home.

 

What type of financing resource is Archie using?

·a.)

Barter

·b.)

Peer-to-peer lending

·c.)

Commercial lending

·d.)

Trade credit

Ray has a great idea for a dating app, but he doesn't have the funds to develop and launch it. His brother offers to help him develop it for free, in exchange for a percentage of future profits.

 

What type of financing resource is Ray using?

·a.)

Sweat equity

·b.)

Factoring

·c.)

Peer-to-peer lending

·d.)

Trade credit

Sumayyah wants to expand her successful T-shirt printing business, but she needs extra capital. She finances the expansion by asking her suppliers to extend the period of time before she must pay them for their goods.

 

What type of financing resource is Sumayyah using?

·a.)

Peer-to-peer lending

·b.)

Trade credit

·c.)

Commercial lending

·d.)

Factoring

                                                       Challenge no #4

Oran just noticed that the price of a stock in his portfolio went up after the company announced a larger than usual dividend.

 

The market's response to the company's decision is attributable to __________.

·a.)

the dividend effect

·b.)

dividend irrelevance

·c.)

information asymmetry

·d.)

capital gains

Raheem bought stock in a tech company that had just announced a dividend. He did not receive the dividend even though the record date had not yet passed when he purchased it.

 

This is because he purchased the stock on or after the __________ date.

·a.)

declaration

·b.)

in-dividend

·c.)

ex-dividend

·d.)

payment

Lester is concerned about a stock in his portfolio because the dividend he just received exceeded the company's earnings per share for the same period.

 

What financial metric is Lester analyzing?

·a.)

Dividend yield

·b.)

Payout ratio

·c.)

Dividend cover

·d.)

Dividend per share

Why might a relatively new technology start-up prefer not to issue dividends?

·a.)

In order to attract a specific clientele like retirees

·b.)

In order to signal to investors that the company is on sound financial footing

·c.)

In order to preserve information asymmetry

·d.)

In order to retain earnings and reinvest in growth

Why might investors prefer stock dividends over cash dividends?

·a.)

If they are seeking flexibility

·b.)

If they are seeking a predictable income stream

·c.)

If they are seeking short-term liquidity

·d.)

If they are seeking a stable share price

Why might investors prefer cash dividends over stock dividends?

·a.)

If they are seeking long-term capital gains

·b.)

If they want regular payments that can be used to reinvest in the company

·c.)

If they want to avoid paying taxes right away

·d.)

If they want the company to reinvest earnings in itself

What does the residual dividend model assume about the relationship between dividends and share value?

·a.)

It assumes that share value rises when the target payout ratio is met.

·b.)

It assumes that share values fall if no dividends are distributed.

·c.)

It assumes there is no appreciable relationship.

·d.)

It assumes that share value rises when dividends are consistent.

According to the residual dividend model, what would a company do if its net income exceeds its financing needs for planned projects?

·a.)

Distribute the remainder as cash dividends

·b.)

Determine the preferred payout ratio of its investors

·c.)

Keep the unallocated income as retained earnings

·d.)

Develop more new projects

According to the residual dividend model, what would a company do if its net income is less than its financing needs for planned projects?

·a.)

Set a target payout ratio

·b.)

Distribute no cash dividends

·c.)

Determine if investors prefer cash of stock dividends

·d.)

Distribute the same dividend as in the past, for the sake of consistency

Diego owns 100 shares of stock in Company A that are valued at $40/share.

 

After Company A repurchases 10% of its outstanding shares on the open market, what does Diego own?

·a.)

100 shares valued at a lower price/share

·b.)

100 shares valued at a higher price/share

·c.)

90 shares valued at a higher price/share

·d.)

90 shares valued at a lower price/share

Chiara owns 100 shares of stock valued at $20/share in Company A.

 

After the company issues a 5% stock dividend, what does Chiara own?

·a.)

100 shares valued at $20/share

·b.)

105 shares valued at $20/share

·c.)

100 shares valued at $21/share

·d.)

105 shares valued at $19.05/share

Eadie owns 300 shares of stock in Company A that were valued at $2/share.

 

After Company A announces a 3-to-1 reverse stock split, Eadie calculates that she will own __________.

·a.)

900 shares valued at $2/share

·b.)

100 shares valued at $2/share

·c.)

900 shares valued at $0.67/share

·d.)

100 shares valued at $6/share

 

 

 

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