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Finance Exam Questions – Can you solve ’em?

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I haven’t posted in the last three months to this blog because of a heavy teaching load at NYU School of Continuing Professional Studies, where I teach “Fundamentals of Corporate Finance.” Here are five questions from a practice exam I recently gave to my students; how many of these can you solve?

1. If a company with $3 million annual revenue decreases its accounts receivables from 45 days outstanding to 30 days outstanding how much cash is freed up?

2. An investor buys a 30-year, 10% interest bond, for $100,000. If interest rates increase to 20%, the value of this bond would change to:
a. $50,211
b. $91,667
c. $104,762
d. $176,862

3. Which of the following statements distinguishing debt versus equity is true?

a. Debt is an ownership interest, while equity is not
b. A publicly-owned firm’s equity has a fluctuating market price, not its debt
c. An all-debt firm is more likely to go bankrupt than an all-equity firm
d. Companies must have some debt in place before they can sell equity

4. A firm has operating income of $50 million, interest expense of $18 million, dividends paid of $15 million, and a 40% tax rate, what is net income?
a. $10.2 million
b. $12.8 million
c. $19.2 million
d. $21.0 million

5. A premium bond has a coupon rate that:
a. is less than the yield to maturity.
b. equals zero.
c. must be variable.
d. equals the current yield.
e. exceeds the yield to maturity

ANSWERS: 1. $123,288, 2A, 3C, 4C, 5E

Finance Exam Questions – Can you solve ’em?

/in /by

I haven’t posted in the last three months to this blog because of a heavy teaching load at NYU School of Continuing Professional Studies, where I teach “Fundamentals of Corporate Finance.” Here are five questions from a practice exam I recently gave to my students; how many of these can you solve?

1. If a company with $3 million annual revenue decreases its accounts receivables from 45 days outstanding to 30 days outstanding how much cash is freed up?

2. An investor buys a 30-year, 10% interest bond, for $100,000. If interest rates increase to 20%, the value of this bond would change to:
a. $50,211
b. $91,667
c. $104,762
d. $176,862

3. Which of the following statements distinguishing debt versus equity is true?

a. Debt is an ownership interest, while equity is not
b. A publicly-owned firm’s equity has a fluctuating market price, not its debt
c. An all-debt firm is more likely to go bankrupt than an all-equity firm
d. Companies must have some debt in place before they can sell equity

4. A firm has operating income of $50 million, interest expense of $18 million, dividends paid of $15 million, and a 40% tax rate, what is net income?
a. $10.2 million
b. $12.8 million
c. $19.2 million
d. $21.0 million

5. A premium bond has a coupon rate that:
a. is less than the yield to maturity.
b. equals zero.
c. must be variable.
d. equals the current yield.
e. exceeds the yield to maturity

ANSWERS: 1. $123,288, 2A, 3C, 4C, 5E

Corporate Finance Questions – Test Your Financial IQ

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Q1. Ignoring capital gains as an alternative, the tax law changes in 2003, (which lowered individual tax rates for dividend income to 15%) tend to encourage a:

A. lower dividend policy.
B. constant dividend policy.
C. zero-dividend policy.
D. higher dividend policy.
E. restrictive dividend policy

Q2. For a CFO of a company trying to achieve the optimal capital structure, which of these would be the best piece of advice to follow:

A. Increase equity financing to diversify the shareholder base, and lessen risk
B. Increase equity financing, but do not exceed your target dividend payout rate
C. Increase debt financing, as long as debt rating stays at C or above.
D. Increase debt until the benefits from tax shield on debt are offset by financial distress costs

Q3. Which statement best explains why General Motors has a Beta of 1.77, while Heinz (maker of Heinz Ketchup and other food products) has a Beta of .44?

A. Because General Motors has a lower stock price than Heinz
B. Because GM has greater debt than Heinz.
C. Because consumers will keep buying Heinz food products in a recession, while they may postpone purchase of a new General Motors vehicle.
D. Because headquarters for General Motors is in Michigan, in the middle of the US, and Heinz is in Pittsburgh, closer to the East Coast.

Q4. A company has a weighted average cost of capital of 8%, based on a cost of equity of 11%, cost of debt of 5%, and a 1-to1 debt-to-equity ratio. A year later, the the cost of equity and cost of debt for the company are unchanged, as is the market value of its debt. However the price per share of its stock has doubled, while the number of shares outstanding have not changed. What has been the impact to the weighted average cost of capital for this company?

A. Decreased 1pp from 8% to 7%
B. Unchanged at 8%
C. Increased 1pp from 8% to 9%
D. Increased 8pp from 8% to 16%

Q5. The owner of a $5 million revenue business is turned down for a $150,000 loan by a commercial bank because they are concerned about his ability to repay. The owner approaches an asset-based lender, but due to poor record keeping is unable to tell the lender what his latest accounts receivable account balance is. *Fortunately, the owner is able to find out from his bookkeeper, that on average, his customers pay in 30 days. If the asset-based lender will loan 70% of the accounts receivable balance, how big a loan will this business owner qualify for?

A. $287,671
B. $321,455
C. $345,299
D. $389,711

Please contact David@RudofskyAssociates.com if you are interested in knowing the correct answers!