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web.groovymark@gmail.com
- December 23, 2024
Question 01
A company has net income of $200,000 and 100,000 shares outstanding. If the current stock price is $25, what is the company’s Price-to-Earnings (P/E) ratio?
- a) 10
- b) 12.5
- c) 20
- d) 25
Answer: b) 12.5
Explanation: The P/E ratio is calculated as Price per share / Earnings per share (EPS). EPS = $200,000 / 100,000 = $2.00. P/E ratio = $25 / $2 = 12.5.
Question 02
If a company’s gross profit is $300,000 and its operating expenses are $150,000, what is its operating income?
- a) $100,000
- b) $150,000
- c) $200,000
- d) $250,000
Answer: b) $150,000
Explanation: Operating income is calculated as Gross Profit - Operating Expenses. In this case: $300,000 - $150,000 = $150,000.
Question 03
Which of the following represents an external source of financing for a company?
- a) Retained earnings
- b) Issuing bonds
- c) Depreciation
- d) Reducing inventory
Answer: b) Issuing bonds
Explanation: Issuing bonds is an external source of financing, as the company raises money from external investors. Retained earnings and reducing inventory are internal sources of funds.
Question 04
A company has a debt-to-equity ratio of 0.5. If the company’s total equity is $1,000,000, what is the company’s total debt?
- a) $200,000
- b) $300,000
- c) $400,000
- d) $500,000
Answer: d) $500,000
Explanation: The debt-to-equity ratio is calculated as Total Debt / Total Equity. In this case, 0.5 = Total Debt / $1,000,000, so Total Debt = $1,000,000 × 0.5 = $500,000.
Question 05
Which of the following is an example of a sunk cost?
- a) The cost of raw materials used in production
- b) The cost of a feasibility study conducted last year
- c) Future advertising expenses
- d) An employee’s salary for the next quarter
Answer: b) The cost of a feasibility study conducted last year
Explanation: Sunk costs are costs that have already been incurred and cannot be recovered, like the cost of a past feasibility study. Future expenses, such as raw materials or salaries, are not considered sunk costs.
Question 06
A company has earnings before interest and taxes (EBIT) of $600,000, interest expenses of $100,000, and a tax rate of 30%. What is the company’s net income?
- a) $350,000
- b) $400,000
- c) $420,000
- d) $450,000
Answer: a) $350,000
Explanation: Net income is calculated as (EBIT - Interest) × (1 - Tax Rate). In this case: ($600,000 - $100,000) × (1 - 0.30) = $350,000.
Question 07
What is the primary purpose of financial ratio analysis?
- a) To determine the intrinsic value of a company’s stock
- b) To assess a company’s financial health and performance
- c) To predict future market conditions
- d) To create a company’s budget
Answer: b) To assess a company’s financial health and performance
Explanation: Financial ratio analysis is used to evaluate a company’s financial performance and condition by comparing various metrics, such as profitability, liquidity, and leverage ratios.
Question 08
What is the main advantage of using the Internal Rate of Return (IRR) method in capital budgeting?
- a) It ignores the time value of money
- b) It provides a single rate of return for easy comparison
- c) It does not require future cash flow estimates
- d) It is less complicated than other methods
Answer: b) It provides a single rate of return for easy comparison
Explanation: IRR gives a single percentage return that can be compared with the company’s required rate of return to make investment decisions. It considers the time value of money.
Question 09
If a company’s net working capital is negative, what does this indicate?
- a) The company has more current liabilities than current assets
- b) The company is highly profitable
- c) The company has no long-term debt
- d) The company’s equity is greater than its debt
Answer: a) The company has more current liabilities than current assets
Explanation: Net working capital is calculated as Current Assets - Current Liabilities. A negative value indicates that current liabilities exceed current assets, which may lead to liquidity issues.
Question 10
A bond has a face value of $1,000 and a coupon rate of 7%. If the bond is currently priced at $950, what is the bond’s current yield?
- a) 7.37%
- b) 7.50%
- c) 8.00%
- d) 8.42%
Answer: a) 7.37%
Explanation: The current yield is calculated as Annual Coupon Payment / Current Price. In this case: ($1,000 × 7%) / $950 = 7.37%.
Question 11
What is the effect of an increase in interest rates on bond prices?
- a) Bond prices rise
- b) Bond prices fall
- c) Bond prices remain unchanged
- d) Bond prices fluctuate randomly
Answer: b) Bond prices fall
Explanation: There is an inverse relationship between interest rates and bond prices. When interest rates increase, the prices of existing bonds with lower coupon rates decrease.
Question 12
A company issues a 10-year bond with a face value of $1,000 and an annual coupon rate of 6%. If the bond is issued at par, how much will the bondholder receive in interest each year?
- a) $60
- b) $600
- c) $1,000
- d) $1,600
Answer: a) $60
Explanation: The annual interest payment is calculated as Face Value × Coupon Rate. In this case: $1,000 × 6% = $60 per year.
Question 13
Which of the following best describes the purpose of the weighted average cost of capital (WACC)?
- a) To estimate the cost of a company’s short-term financing
- b) To determine the minimum return required on a company’s investments
- c) To calculate the company’s net income
- d) To assess the company’s risk-free rate
Answer: b) To determine the minimum return required on a company’s investments
Explanation: WACC represents the average rate a company must pay to finance its assets, considering both debt and equity, and is used as a hurdle rate for investment decisions.
Question 14
A company with a high level of operating leverage is more sensitive to changes in which of the following?
- a) Sales revenue
- b) Debt levels
- c) Equity prices
- d) Interest rates
Answer: a) Sales revenue
Explanation: Operating leverage refers to the impact of fixed costs on a company’s profitability. A company with high operating leverage will experience greater fluctuations in profits as sales change.
Question 15
What is the main difference between common stock and preferred stock?
- a) Preferred stockholders have voting rights, while common stockholders do not
- b) Common stockholders have a residual claim on assets, while preferred stockholders have priority over dividends
- c) Preferred stock can be converted into bonds, while common stock cannot
- d) Common stock dividends are fixed, while preferred stock dividends fluctuate
Answer: b) Common stockholders have a residual claim on assets, while preferred stockholders have priority over dividends
Explanation: Preferred stockholders have priority in receiving dividends before common stockholders, but common stockholders have a residual claim on assets after debts and preferred shareholders are paid.
Question 16
A company has a market value of equity of $5,000,000, long-term debt of $2,000,000, and short-term debt of $1,000,000. What is the company’s debt-to-equity ratio?
- a) 0.2
- b) 0.5
- c) 0.6
- d) 0.8
Answer: d) 0.6
Explanation: The debt-to-equity ratio is calculated as Total Debt / Total Equity. In this case: ($2,000,000 + $1,000,000) / $5,000,000 = 0.6.
Question 17
Which of the following describes the capital asset pricing model (CAPM)?
- a) It measures a stock’s total risk relative to the market
- b) It calculates a stock’s intrinsic value based on dividends
- c) It determines a stock’s expected return based on its systematic risk
- d) It estimates a company’s weighted average cost of capital
Answer: c) It determines a stock’s expected return based on its systematic risk
Explanation: CAPM calculates the expected return of a stock based on its beta (systematic risk), the risk-free rate, and the expected market return.
Question 18
If a company’s price-to-sales (P/S) ratio is 2.0, and the company’s sales are $1,000,000, what is the company’s market value?
- a) $500,000
- b) $1,000,000
- c) $2,000,000
- d) $3,000,000
Answer: c) $2,000,000
Explanation: The P/S ratio is calculated as Market Value / Sales. In this case: Market Value = 2.0 × $1,000,000 = $2,000,000.
Question 19
A company’s stock has a beta of 1.5. If the market return is 8% and the risk-free rate is 3%, what is the stock’s expected return according to CAPM?
- a) 7.5%
- b) 8.0%
- c) 10.5%
- d) 12.5%
Answer: d) 12.5%
Explanation: Using CAPM, Expected Return = Risk-Free Rate + Beta × (Market Return - Risk-Free Rate). In this case: 3% + 1.5 × (8% - 3%) = 12.5%.
Question 20
What does the term “free cash flow to the firm” (FCFF) refer to?
- a) Cash available after all expenses, taxes, and reinvestments
- b) Cash available to equity holders after dividends are paid
- c) Cash available for expansion projects only
- d) Cash available for reinvestment but not distribution
Answer: a) Cash available after all expenses, taxes, and reinvestments
Explanation: FCFF represents the cash available to the company after operating expenses, taxes, and capital expenditures have been paid, available to both equity holders and debt holders.
