BusFin Exam

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Business Finance Examination

Prof. Jonie A. Jumamil, Jr., MBA


Instructions: Read each sentence carefully and get the answers from the choices below each item. Put
your answers in the submission link: https://forms.gle/5QzFHYiGB61yQ1it6 Deadline is on November 7,
2023 at 11.:59pm.

Part 1.
1. Which of the following statements is true?
a. One of the benefits of incorporating your business is that you become entitled to receive unlimited
liability.
b. Sole proprietorships are subject to more regulations than corporations.
c. Sole proprietorships do not have to pay corporate tax.
d. All of the statements above are correct.
e. None of the statements above is correct.

2. Which of the following statements is most correct?


a. One of the advantages of the corporate form of organization is that there is no double taxation.
b. The partnership form of organization has easy transferability of ownership.
c. One of the disadvantages of the sole proprietorship form of organization is that there is unlimited
liability.
d. Statements b and c are correct.
e. None of the statements above is correct.

3. Which of the following statements is most correct?


a. One advantage of forming a corporation is that you have limited liability.
b. Corporations face fewer regulations than sole proprietorships.
c. One disadvantage of being a sole proprietor is that you have to pay corporate taxes, even though you
don’t realize the benefits of being a corporation.
d. Statements b and c are correct.
e. None of the statements above is correct.

4. Until this year, Cheers Inc. was organized as a partnership. This year, the partners have decided to
organize the business as a corporation. As a result of this change in organizational form, which of the
following statements is most correct?
a. Cheers’ shareholders (the ex-partners) will now have limited liability.
b. Cheers will now be subject to fewer regulations.
c. Cheers will now pay less in taxes.
d. Cheers’ investors will now find it more difficult to transfer ownership.
e. Cheers will now find it more difficult to raise additional capital.

5. Which of the following statements is most correct?


a. Corporations generally face fewer regulations than sole proprietorships do.
b. Corporate shareholders have unlimited liability.
c. It is usually easier to transfer ownership in a corporation than it is to transfer ownership in a sole
proprietorship.
d. All of the above statements are correct.
e. None of the above statements is correct.

6. Which of the following could explain why a business might choose to organize as a corporation rather
than as a sole proprietorship or a partnership?
a. Corporations generally face fewer regulations.
b. Corporations generally face lower taxes.
c. Corporations generally find it easier to raise capital.
d. Corporations enjoy unlimited liability.
e. Statements c and d are correct.
7. Which of the following statements is most correct?
a. One drawback of forming a corporation is that it subjects the firm to additional regulations.
b. One drawback of forming a corporation is that it subjects the firm to limited liability.
c. One drawback of forming a corporation is that it makes it more difficult for the firm to raise capital.
d. All of the statements above are correct.
e. Statements b and c are correct.

8. The primary goal of a publicly-owned firm interested in serving its stockholders should be to
a. Maximize expected total corporate profit.
b. Maximize expected EPS.
c. Minimize the chances of losses.
d. Maximize the stock price per share.
e. Maximize expected net income.

9. Which of the following statements is most correct?


a. Compensating managers with stock can reduce the agency problem between stockholders and
managers.
b. Restrictions are included in credit agreements to protect bondholders from the agency problem that
exists between bondholders and stockholders.
c. The threat of a takeover can reduce the agency problem between bondholders and stockholders.
d. Statements a and b are correct.
e. All of the statements above are correct.

10. Which of the following work to reduce agency conflicts between stockholders and bondholders?
a. Including restrictive covenants in the company’s bond contract.
b. Providing managers with a large number of stock options.
c. The passage of laws that make it easier for companies to resist hostile takeovers.
d. Statements b and c are correct.
e. All of the statements above are correct.

11. Which of the following actions are likely to reduce agency conflicts between stockholders and
managers?
a. Paying managers a large fixed salary.
b. Increasing the threat of corporate takeover.
c. Placing restrictive covenants in debt agreements.
d. All of the statements above are correct.
e. Statements b and c are correct.

12. Which of the following actions are likely to reduce the agency problem between stockholders and
managers?
a. Congress passes a law that severely restricts hostile takeovers.
b. A manager receives a lower salary but receives additional shares of the company’s stock.
c. The board of directors has become more vigilant in its oversight of the company’s management.
d. Statements b and c are correct.
e. All of the statements above are correct.

13. Which of the following mechanisms is used to motivate managers to act in the interest of
shareholders?
a. Bond covenants.
b. The threat of a takeover.
c. Pressure from the board of directors.
d. Statements a and b are correct.
e. Statements b and c are correct.
14. Which of the following is likely to encourage a firm’s managers to make decisions that are in the best
interest of shareholders?
a. Executive compensation comes primarily in the form of stock options.
b. The state legislature recently passed a law that makes it more difficult to successfully complete a
hostile takeover.
c. Institutional investors such as mutual funds and pension funds hold large amounts of the firm’s stock.
d. Statements a and b are correct.
e. Statements a and c are correct.

15. Which of the following statements is most correct?


a. A good goal for a corporate manager is maximization of expected EPS.
b. Most business in the U.S. is conducted by corporations; corporations’ popularity results primarily from
their favorable tax treatment.
c. A good example of an agency relationship is the one between stockholders and managers.
d. Corporations and partnerships have an advantage over proprietorships because a sole proprietor is
subject to unlimited liability, but investors in the other types of businesses are not.
e. Firms in highly competitive industries find it easier to exercise “social responsibility” than do firms in
oligopolistic industries.

16. Which of the following statements is most correct?


a. One advantage of organizing your business as a corporation is that your shareholders are not subject
to limited liability.
b. Restrictive covenants in debt agreements are an effective way to reduce agency conflicts between
stockholders and managers.
c. Managers generally welcome hostile takeovers since they often increase the company’s stock price.
d. Statements a and b are correct.
e. None of the answers above is correct.

17. Which of the following statements is most correct?


a. Bond covenants are a good way to resolve agency conflicts between stockholders and managers.
b. Hostile takeovers tend to reduce a company’s stock price.
c. Corporations have limited liability.
d. Statements a and b are correct.
e. Statements a, b, and c are correct.

18. Which of the following statements is most correct?


a. Hostile takeovers are most likely to occur when a firm’s stock is undervalued, relative to its potential,
because of poor management.
b. One advantage to remaining a sole proprietor is that you have limited liability.
c. In general, bondholders have a greater preference for riskier projects than do stockholders.
d. Statements b and c are correct.
e. All of the statements above are correct.

19. Which of the following statements is most correct?


a. One disadvantage of forming a corporation is that your shareholders have limited liability.
b. Relative to sole proprietorships, corporations generally face more regulations, but find it easier to raise
capital.
c. Bondholders generally want managers to select risky projects, but shareholders prefer that managers
select safe projects.
d. Statements a and b are correct.
e. All of the statements above are correct.

20. Which of the following statements is most correct?


a. Since they are guaranteed a certain set of cash flows, corporate bondholders generally want corporate
managers to select high risk/high return projects.
b. One advantage of forming a corporation is that you can deduct your corporate taxes, and thereby
eliminate the double taxation that you would face as a sole proprietor.
c. One drawback of forming a corporation is that you lose the limited liability that you would otherwise
receive as a sole proprietor.
d. All of the statements above are correct.
e. None of the statements above is correct.

21. Which of the following is an example of an area of business in which the use of “questionable” ethics
is considered a necessity?
a. Attracting and sustaining new customers.
b. Hiring and keeping skilled employees.
c. Keeping up with competition.
d. Dealing with firms who use “questionable” ethics.
e. None of the statements above is correct.

22. Which of the following statements is most correct?


a. The ability of firms to engage in socially beneficial projects that involve voluntary costs is constrained
by competition and the need of firms to attract capital at low cost.
b. The actions that maximize a firm’s stock price are inconsistent with maximizing social welfare.
c. The concepts of social responsibility and ethical responsibility on the part of corporations are
completely different and neither is relevant in maximizing stock price.
d. In a competitive market, if a group of firms do not spend resources making social welfare
improvements, but another group does, in general, this will not affect the second group’s ability to attract
capital.
e. If government did not mandate socially responsible corporate actions, such as those relating to product
safety and fair hiring practices, most firms in competitive markets would still pursue such policies
voluntarily.

23. Which of the following statements is most correct?


a. The corporate bylaws are the set of rules drawn up by the state to enable managers to run the firm in
accordance with state laws.
b. Procedures for electing corporate directors are contained in bylaws, while the declaration of the
activities that the firm will pursue and the number of directors are included in the corporate charter.
c. Procedures that govern changes in the bylaws of the corporation are contained in the corporate
charter.
d. Although most companies design a charter, only the bylaws are legally required to be filed with the
secretary of state in order for a corporation to be in official existence.
e. None of the statements above is correct.

24. Which of the following statements is most correct?


a. A hostile takeover is the main method of transferring ownership interest in a corporation.
b. The corporation is a legal entity created by the state and is a direct extension of the legal status of its
owners and managers, that is, the owners and managers are the corporation.
c. Unlimited liability and limited life are two key advantages of the corporate form over other forms of
business organization.
d. In part due to limited liability and ease of ownership transfer, corporations have less trouble raising
money in financial markets than other organizational forms.
e. Although stockholders of the corporation are insulated by limited legal liability, the legal status of the
corporation does not protect the firm’s managers in the same way.

25. Which of the following statements is most correct?


a. In a partnership, liability for other partners’ misdeeds is limited to the amount a particular partner has
invested in the business.
b. Partnerships must be formed according to specific rules that include the filing of a formal written
agreement with state authorities where the partnership does business.
c. A fast-growth company would be more likely to set up a partnership for its business organization than
would a slow-growth company.
d. Partnerships have difficulty attracting capital in part because of the other disadvantages of the
partnership form of business, including impermanence of the organization.
e. A major disadvantage of a partnership as a form of business organization is the high cost and practical
difficulty of its formation.

26. Which of the following statements is most correct?


a. Due to limited liability, unlimited lives, and ease of ownership transfer, the vast majority of U.S.
businesses (in terms of number of businesses) are organized as corporations.
b. Most businesses (by number and total dollar sales) are organized as proprietorships or partnerships
because it is easier to set up and operate in one of these forms rather than as a corporation. However,
if the business gets very large, it becomes advantageous to convert to a corporation, primarily because
corporations have important tax advantages over proprietorships and partnerships.
c. Due to legal considerations related to ownership transfers and limited liability, most business
(measured by dollar sales) is conducted by corporations.
d. Statements a, b, and c are correct.
e. None of the statements above is correct.

27. Which of the following statements is most correct?


a. Corporations are taxed more favorably than sole proprietorships.
b. Corporations have unlimited liability.
c. Because of their size, large corporations face fewer regulations than smaller corporations and sole
proprietorships.
d. Reducing the threat of corporate takeover increases the likelihood that managers will act in
shareholders’ interest.
e. Bond covenants are designed to reduce potential conflicts between stockholders and bondholders.

28. Which of the following statements is most correct?


a. The optimal dividend policy is the one that satisfies the shareholders because they supply the firm’s
capital.
b. The use of debt financing has no effect on cash flow or stock price.
c. The riskiness of projected cash flows depends upon how the firm is financed.
d. Stock price is dependent on the projected cash flows and the use of debt, but not on the timing of the
cash flow stream.
e. Dividend policy is one aspect of the firm’s financial policy that is determined directly by the
shareholders.

29. Which of the following statements is most correct?


a. The proper goal of the financial manager should be to maximize the firm’s expected cash flow,
because this will add the most wealth to each of the individual shareholders (owners) of the firm.
b. One way to state the decision framework most useful for carrying out the firm’s objective is as follows:
“The financial manager should seek that combination of assets, liabilities, and capital that will generate
the largest expected projected after-tax income over the relevant time horizon.”
c. The riskiness inherent in a firm’s earnings per share (EPS) depends on the characteristics of the
projects the firm selects, which means it depends upon the firm’s assets, but EPS does not depend on
the manner in which those assets are financed.
d. Since large, publicly-owned firms are controlled by their management teams, and typically, ownership
is widely dispersed, managers have great freedom in managing the firm. Managers may operate in
stockholders’ best interests, but they may also operate in their own personal best interests. As long as
managers stay within the law, there simply aren’t any effective controls over managerial decisions in such
situations.
e. Agency problems exist between stockholders and managers, and between stockholders and creditors.

30. Which of the following statements is most correct?


a. Agency conflicts between stockholders and managers are not really a problem when outsiders (that is,
non-managers) own shares in a corporation.
b. Managers may operate in stockholders’ best interests, or managers may operate in their own personal
best interests. As long as managers stay within the law, there are no effective controls that stockholders
can implement to control managerial decision making.
c. The agency conflicts between bondholders and stockholders can be reduced with the use of restrictive
bond covenants.
d. An agency relationship exists when one or more persons hire another person to perform some service
but withhold decision-making authority from that person.
e. None of the statements above is correct.

31. Which of the following statements is most correct?


a. One of the ways in which firms can mitigate or reduce agency problems between bondholders and
stockholders is by increasing the amount of debt in the capital structure.
b. The threat of takeover is one way in which the agency problem between stockholders and managers
can be alleviated.
c. Managerial compensation can be structured to reduce agency problems between stockholders and
managers.
d. Statements b and c are correct.
e. All of the statements above are correct.

32. Which of the following statements is most correct?


a. Corporations face fewer regulations and taxes relative to sole proprietorships and partnerships.
b. Managers who face the threat of hostile takeovers are less likely to pursue policies that maximize
shareholder value compared to managers who do not face the threat of hostile takeovers.
c. Bond covenants are an effective way to resolve agency conflicts between shareholders and managers.
d. Because of their size, it is easier for sole proprietors and partnerships to raise outside capital than it is
for a corporation.
e. One advantage to forming a corporation is that the owners of the corporations have limited liability.

PART 2.

1. Last year Aldrin Co. had negative net cash flow, yet its cash on the balance sheet increased. What
could explain these events?

a. Aldrin issued long-term debt.


b. Aldrin repurchased some of its common stock.
c. Aldrin sold some of its assets.
d. Statements a and b are correct.
e. Statements a and c are correct.

2. Last year, Blanda Brothers had positive net cash flow, yet cash on the balance sheet decreased.
Which of the following could explain the company’s financial performance?
a. The company issued new common stock.
b. The company issued new long-term debt.
c. The company sold off some of its assets.
d. The company purchased a lot of new fixed assets.
e. The company eliminated its dividend.

3. Last year, Sewickley Shoes had negative net cash flow; however, cash on
its balance sheet increased. Which of the following could explain this?
a. The company repurchased some of its common stock.
b. The company had large depreciation and amortization expenses.
c. The company issued a large amount of long-term debt.
d. The company dramatically increased its capital expenditures.
e. All of the statements above are correct.

4. Which of the following factors could explain why last year Cleaver Energy had negative net cash flow,
but the cash on its balance sheet increased?
a. The company paid a large dividend.
b. The company had large depreciation and amortization expenses.
c. The company repurchased common stock.
d. The company issued new debt.
e. The company made a large investment in new plant and equipment.

5. Analysts who follow Sierra Nevada Inc. recently noted that, relative to the previous year, the company’s
net cash flow was larger but cash on the firm’s balance sheet had declined. What factors could explain
these changes?
a. The company sold a division and received cash in return.
b. The company cut its dividend.
c. The company made a large investment in new plant and equipment.
d. Statements a and b are correct.
e. Statements b and c are correct.

6. A stock analyst has acquired the following information for Palmer Products:
 Retained earnings on the year-end 2001 balance sheet was $700,000.
 Retained earnings on the year-end 2002 balance sheet was $320,000.
 The company does not pay dividends.
 The company’s depreciation expense is its only non-cash expense.
 The company has no non-cash revenues.
 The company’s net cash flow for 2002 was $150,000.
On the basis of this information, which of the following statements is most correct?
a. Palmer Products had negative net income in 2002.
b. Palmer Products had positive net income in 2002, but it was less than its net income in 2001.
c. Palmer Products’ depreciation expense in 2002 was less than $150,000.
d. Palmer Products’ cash on the balance sheet at the end of 2002 must be lower than the cash it had on
its balance sheet at the end of 2001.
e. Palmer Products’ net cash flow in 2002 must be higher than its net cash flow in 2001.

7. Holmes Aircraft recently announced an increase in its net income, yet its net cash flow declined relative
to last year. Which of the following could explain this performance?
a. The company’s interest expense increased.
b. The company’s depreciation and amortization expenses declined.
c. The company’s operating income declined.
d. All of the statements above are correct.
e. None of the statements above is correct.

8. Kramer Corporation recently announced that its net income was lower than last year. However,
analysts estimate that the company’s net cash flow increased. What factors could explain this
discrepancy?
a. The company’s depreciation and amortization expenses increased.
b. The company’s interest expense declined.
c. The company had an increase in its noncash revenues.
d. Statements a and b are correct.
e. Statements b and c are correct.
9. Last year, Owen Technologies reported negative net cash flow and negative free cash flow. However,
its cash on the balance sheet increased. Which of the following could explain these changes in its cash
position?
a. The company had a sharp increase in its depreciation and amortization expenses.
b. The company had a sharp increase in its inventories.
c. The company issued new common stock.
d. Statements a and b are correct.
e. Statements a and c are correct.
10. Which of the following items is included as part of a company’s current assets?
a. Accounts payable.
b. Inventory.
c. Accounts receivable.
d. Statements b and c are correct.
e. All of the statements above are correct.

11. Which of the following items can be found on a firm’s balance sheet listed as a current asset?
a. Accounts receivable.
b. Depreciation.
c. Accrued wages.
d. Statements a and b are correct.
e. Statements a and c are correct.

12. On its 2001 balance sheet, Sherman Books had retained earnings equal to $510 million. On its 2002
balance sheet, retained earnings were also equal to $510 million. Which of the following statements is
most correct?
a. The company must have had net income equal to zero in 2002.
b. The company did not pay dividends in 2002.
c. If the company’s net income in 2002 was $200 million, dividends paid must have also equaled $200
million.
d. If the company lost money in 2002, they must have paid dividends.
e. None of the statements above is correct.

13. Below is the equity portion (in millions) of the year-end balance sheet that Glenn Technology has
reported for the last two years:

Glenn does not pay a dividend to its common stockholders. Which of the following statements is most
correct?
a. Glenn issued preferred stock in both 2001 and 2002.
b. Glenn issued common stock in 2002.
c. Glenn had positive net income in both 2001 and 2002, but the company’s net income in 2002 was
lower than it was in 2001.
d. Statements b and c are correct.
e. None of the statements above is correct.

14. All else equal, which of the following actions will increase the amount of cash on a company’s balance
sheet?
a. The company issues new common stock.
b. The company repurchases common stock.
c. The company pays a dividend.
d. The company purchases a new piece of equipment.
e. All of the statements above are correct.
15. Below are the 2001 and 2002 year-end balance sheets for Kewell Boomerangs:

Kewell Boomerangs has never paid a dividend on its common stock. Kewell issued $1,200,000 of long-
term debt in 1997. This debt was non-callable and is scheduled to mature in 2027. As of the end of 2002,
none of the principal on this debt has been repaid. Assume that 2001 and 2002 sales were the same in
both years. Which of the following statements is most correct?
a. Kewell had negative net income in 2002.
b. Kewell issued new common stock in 2002.
c. Kewell issued long-term debt in 2002.
d. Statements a and b are correct.
e. All of the statements above are correct.

16. Which of the following are likely to occur if Congress passes legislation that forces Carter
Manufacturing to depreciate their equipment over a longer time period?
a. The company’s physical stock of assets would increase.
b. The company’s reported net income would decline.
c. The company’s cash position would decline.
d. All of the statements above are correct.
e. Statements b and c are correct.

17. Assume that a company currently depreciates its fixed assets over 7 years. Which of the following
would occur if a tax law change forced the company to depreciate its fixed assets over 10 years instead?
a. The company’s tax payment would increase.
b. The company’s cash position would increase.
c. The company’s net income would increase.
d. Statements a and c are correct.
e. Statements b and c are correct.

18. Keaton Enterprises is a very profitable company, which recently purchased some equipment. It plans
to depreciate the equipment on a straight-line basis over the next 10 years. Congress, however, is
considering a change in the Tax Code that would allow Keaton to depreciate the equipment on a straight-
line basis over 5 years instead of 10 years. If Congress were to change the law, and Keaton does decide
to depreciate the equipment over 5 years, what effect would this change have on the company’s financial
statements for the coming year? (Note that the change in the law would have no effect on the economic
or physical value of the equipment.)
a. The company’s net income would decline.
b. The company’s net cash flow would decline.
c. The company’s tax payments would decline.
d. Statements a and c are correct.
e. All of the statements above are correct.

19. Congress recently passed a provision that will enable Piazza Cola to double its depreciation expense
for the upcoming year. The new provision will have no effect on the company’s sales revenue. Prior to the
new provision, Piazza’s net income was forecasted to be $4 million. The company’s tax rate is 40
percent. Which of the following best describes the impact that this provision will have on Piazza’s financial
statements?
a. The provision will increase the company’s net income.
b. The provision will reduce the company’s net cash flow.
c. The provision will increase the company’s tax payments.
d. All of the statements above are correct.
e. None of the statements above is correct.

20. The Campbell Corporation just purchased an expensive piece of equipment. Originally, the firm was
planning on depreciating the equipment over 5 years on a straight-line basis. However, Congress just
passed a provision that will force the company to depreciate its equipment over 7 years on a straight-line
basis. Which of the following will occur as a result of this Congressional action?
a. Campbell Corporation’s net income for the year will be higher.
b. Campbell Corporation’s tax liability for the year will be higher.
c. Campbell Corporation’s net fixed assets on the balance sheet will be higher at the end of the year.
d. Statements a and b are correct.
e. All of the statements above are correct.

21. Armstrong Inc. is a profitable corporation with a 40 percent corporate tax rate. The company is
deciding between depreciating the equipment it purchased this year on a straight-line basis over five
years or over three years. Changing the depreciation schedule will have no impact on the equipment’s
economic value. If Armstrong chooses to depreciate the equipment over three years, which of the
following will occur next year, relative to what would have happened, if it had depreciated the equipment
over five years?
a. The company will have a lower net income.
b. The company will pay less in taxes.
c. The company will have a lower net cash flow.
d. Statements a and b are correct.
e. All of the statements above are correct.

22. Which of the following statements is most correct?


a. Accounts receivable show up as current liabilities on the balance sheet.
b. Dividends paid reduce the net income that is reported on a company’s income statement.
c. If a company pays more in dividends than it generates in net income, its balance of retained earnings
reported on the balance sheet will fall.
d. Statements a and b are correct.
e. All of the statements above are correct.

23. Haskell Motors’ common equity on the balance sheet totals $700 million, and the company has 35
million shares of common stock outstanding. Haskell has significant growth opportunities. Its
headquarters has a book value of $5 million, but its market value is estimated to be $10 million. Over
time, Haskell has issued outstanding debt that has a book value of $10 million and a market value of $5
million. Which of the following statements is most correct?
a. Haskell’s book value per share is $20.
b. Haskell’s market value per share is probably less than $20.
c. Haskell’s market value per share is probably greater than $20.
d. Statements a and b are correct.
e. Statements a and c are correct.
24. Analysts who follow Cascade Technology recently noted that, relative to the previous year, the
company’s operating income (EBIT) and net income had declined but its operating cash flow had
increased. What could explain these changes?
a. The company’s depreciation and amortization expenses increased.
b. The company’s interest expense decreased.
c. The company’s tax rate increased.
d. Statements a and b are correct.
e. All of the statements above are correct.

25. Which of the following statements is most correct?


a. Actions that increase net income will always increase net cash flow.
b. One way to increase EVA is to maintain the same operating income with less capital.
c. One drawback of EVA as a performance measure is that it mistakenly assumes that equity capital is
free.
d. Statements a and b are correct.
e. Statements a and c are correct.

26. Solo Company has been depreciating its fixed assets over 15 years. It is now clear that these assets
will only last a total of 10 years. Solo’s accountants have encouraged the firm to revise its annual
depreciation to reflect this new information. Which of the following would occur as a result of this change?
a. The company’s earnings per share would decrease.
b. The company’s cash position would increase.
c. The company’s EBIT would increase.
d. Statements a and b are correct.
e. All of the statements above are correct.

27. A start-up firm is making an initial investment in new plant and equipment. Currently, equipment is
depreciated on a straight-line basis over 10 years. Assume that Congress is considering legislation that
will allow the corporation to depreciate the equipment over 7 years. If the legislation becomes law, and
the firm implements the 7-year depreciation basis, which of the following will occur?
a. The firm’s tax payments will increase.
b. The firm’s net income will increase.
c. The firm’s taxable income will increase.
d. The firm’s net cash flow will increase.
e. The firm’s operating income (EBIT) will increase.

28. The CFO of Mulroney Brothers has suggested that the company should issue $300 million worth of
common stock and use the proceeds to reduce some of the company’s outstanding debt. Assume that
the company adopts this policy, and that total assets and operating income (EBIT) remain the same. The
company’s tax rate will also remain the same. Which of the following will occur?
a. The company’s net income will increase.
b. The company’s taxable income will fall.
c. The company will pay less in taxes.
d. Statements b and c are correct.
e. All of the statements above are correct.

29. An analyst has acquired the following information regarding Company A and
Company B:
 Company A has a higher net cash flow than Company B.
 Company B has higher net income than Company A.
 Company B has a higher operating cash flow than Company A.
 The companies have the same tax rate, investor-supplied operating capital, and cost of capital
(WACC).
Assume that non-cash revenues equal zero for both companies, and depreciation is the only non-cash
expense for both companies. Which of the following statements is most correct?
a. Company A has a higher depreciation expense than Company B.
b. Company A has a lower level of operating income (EBIT) than Company B.
c. Company A has a lower EVA than Company B.
d. Statements a and b are correct.
e. All of the statements above are correct.

30. Assume that the depreciation level used for tax and accounting purposes equals the true economic
depreciation. Which of the following statements is most correct?
a. If a company’s net income doubles, its Economic Value Added (EVA) will more than double.
b. If a company’s depreciation expense declines its net income will fall but its Economic Value Added
(EVA) will increase.
c. A firm can increase its EVA even if its operating income falls.
d. Statements a and b are correct.
e. Statements a and c are correct.

Part 3.
(The following information applies to the next four problems.)
You have just obtained financial information for the past 2 years for Sebring Corporation.
1. What is Sebring’s net operating profit after taxes (NOPAT) for 2002?
a. $100,000,000
b. $150,000,000
c. $225,000,000
d. $270,000,000
e. $375,000,000

2. What is Sebring’s net operating working capital for 2002?


a. $ 540,000,000
b. $ 576,000,000
c. $ 750,000,000
d. $ 985,000,000
e. $1,116,000,000

3. What is Sebring’s amount of total investor-supplied operating capital for 2002?


a. $ 576,000,000
b. $ 888,000,000
c. $ 900,000,000
d. $1,275,000,000
e. $1,476,000,000

4. What is Sebring’s free cash flow for 2002?


a. $ 85,000,000
b. $146,000,000
c. $174,000,000
d. $255,000,000
e. $366,000,000

(The following information applies to the next four problems.)


Last year, Sharpe Radios had a net operating profit after-taxes (NOPAT) of $7.8 million. Its EBITDA was
$15.5 million and net income amounted to $3.8 million. During the year, Sharpe Radios made $5.5 million
in net capital expenditures (that is, capital expenditures net of depreciation). Finally, Sharpe Radios’
finance staff has concluded that the firm’s total after-tax capital costs were $5.9 million and its tax rate
was 40 percent.

5. What is Sharpe Radios’ depreciation and amortization expense?


a. $1.5 million
b. $2.1 million
c. $2.5 million
d. $3.3 million
e. $4.0 million

6. What is Sharpe Radios’ interest expense?


a. $ 6.33 million
b. $ 6.67 million
c. $ 8.33 million
d. $ 9.17 million
e. $10.13 million

7. What is Sharpe Radios’ free cash flow?


a. $1.9 million
b. $2.3 million
c. $4.0 million
d. $4.8 million
e. $6.3 million

8. What is Sharpe Radios’ EVA?


a. $1.9 million
b. $2.3 million
c. $4.0 million
d. $7.2 million
e. $9.6 million

(The following information applies to the next four problems.)


Laiho Industries recently reported the following information in its annual report:
 Net income = $7.0 million.
 NOPAT = $60 million.
 EBITDA = $120 million.
 Net profit margin = 5.0%.
Laiho has depreciation expense, but it does not have amortization expense. Laiho has $300 million in
operating capital, its after-tax cost of capital is 10 percent (that is, its WACC = 10%), and the firm’s tax
rate is 40 percent.

9. What is Laiho’s depreciation expense?


a. $20.0 million
b. $30.0 million
c. $53.0 million
d. $60.0 million
e. $77.1 million

10. What is Laiho’s interest expense?


a. $60.0 million
b. $82.5 million
c. $88.3 million
d. $92.0 million
e. $95.0 million

11. What is Laiho’s sales?


a. $120.0 million
b. $140.0 million
c. $160.0 million
d. $180.0 million
e. $200.0 million

12. What is Laiho’s EVA?


a. $30.0 million
b. $40.0 million
c. $50.0 million
d. $60.0 million
e. $70.0 million

(The following information applies to the next three problems.)


Beckham Broadcasting Company (BBC) has operating income (EBIT) of $2,500,000. The company’s
depreciation expense is $500,000 and it has no amortization expense. The company is 100 percent
equity financed (that is, its interest expense is zero). The company has a 40 percent tax rate, and its net
investment in operating capital is $1,000,000.

12. What is BBC’s net income?


a. $1,000,000
b. $1,200,000
c. $1,250,000
d. $1,500,000
e. $1,550,000

13. What is BBC’s net operating profit after taxes (NOPAT)?


a. $1,000,000
b. $1,200,000
c. $1,250,000
d. $1,500,000
e. $1,550,000

14. What is BBC’s free cash flow?


a. $ 0
b. $ 500,000
c. $ 900,000
d. $1,000,000
e. $1,500,000

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