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web.groovymark@gmail.com
- December 23, 2024
Question 21
Which of the following is an example of a primary market transaction?
- a) A company issues new shares in an initial public offering (IPO)
- b) An investor buys shares on the New York Stock Exchange
- c) A mutual fund manager sells shares of a company
- d) A company repurchases its own stock
Answer: a) A company issues new shares in an initial public offering (IPO)
Explanation: Primary market transactions involve the sale of new securities directly from the issuer to investors, such as an IPO. Secondary market transactions involve trading between investors.
Question 22
What is the effect of a share repurchase on a company’s earnings per share (EPS)?
- a) EPS decreases
- b) EPS increases
- c) EPS remains unchanged
- d) EPS is diluted
Answer: b) EPS increases
Explanation: When a company repurchases shares, the number of outstanding shares decreases, which increases the earnings per share, assuming net income remains constant.
Question 23
A company has a Return on Assets (ROA) of 10% and a Total Asset Turnover of 2. What is the company’s profit margin?
- a) 2%
- b) 5%
- c) 10%
- d) 20%
Answer: b) 5%
Explanation: ROA is calculated as Profit Margin × Total Asset Turnover. Rearranging the formula, Profit Margin = ROA / Total Asset Turnover. In this case: 10% / 2 = 5%.
Question 24
A company’s income statement shows the following: Sales = $1,000,000, Cost of Goods Sold (COGS) = $600,000, Operating Expenses = $200,000. What is the company’s gross profit margin?
- a) 10%
- b) 20%
- c) 30%
- d) 40%
Answer: d) 40%
Explanation: Gross profit margin is calculated as (Sales - COGS) / Sales. In this case: ($1,000,000 - $600,000) / $1,000,000 = 40%.
Question 25
What is the primary advantage of the DuPont identity?
- a) It calculates a company’s intrinsic value
- b) It breaks down Return on Equity (ROE) into three components
- c) It determines a company’s risk premium
- d) It estimates the company’s cost of capital
Answer: b) It breaks down Return on Equity (ROE) into three components
Explanation: The DuPont identity decomposes ROE into three parts: profit margin, total asset turnover, and equity multiplier, helping identify the drivers of ROE.
Question 26
If a company’s cost of equity is 12%, and its after-tax cost of debt is 6%, what will happen if the company increases its leverage?
- a) The company’s WACC will decrease
- b) The company’s WACC will increase
- c) The company’s cost of equity will decrease
- d) The company’s debt-to-equity ratio will decrease
Answer: a) The company’s WACC will decrease
Explanation: Increasing leverage (debt) typically lowers WACC because debt is cheaper than equity, especially if the cost of debt is lower than the cost of equity.
Question 27
A company’s balance sheet shows total assets of $800,000 and total liabilities of $300,000. What is the company’s equity?
- a) $300,000
- b) $400,000
- c) $500,000
- d) $800,000
Answer: c) $500,000
Explanation: Equity is calculated as Total Assets - Total Liabilities. In this case: $800,000 - $300,000 = $500,000.
Question 28
Which of the following is an example of an operating activity on the Statement of Cash Flows?
- a) Repaying long-term debt
- b) Paying wages to employees
- c) Purchasing new equipment
- d) Issuing dividends
Answer: b) Paying wages to employees
Explanation: Operating activities include cash flows from a company’s core business operations, such as paying wages. Repaying debt and issuing dividends are financing activities, while purchasing equipment is an investing activity.
Question 29
A bond is currently priced at $980, and it has a face value of $1,000. What does this indicate about the bond?
- a) The bond is selling at a premium
- b) The bond is selling at a discount
- c) The bond is at par value
- d) The bond’s coupon rate is higher than the market rate
Answer: b) The bond is selling at a discount
Explanation: A bond selling for less than its face value is priced at a discount, typically because its coupon rate is lower than current market interest rates.
Question 30
What is the impact of a company’s financial leverage on its return on equity (ROE)?
- a) It reduces ROE
- b) It increases ROE
- c) It has no effect on ROE
- d) It stabilizes ROE
Answer: b) It increases ROE
Explanation: Financial leverage increases ROE because it allows a company to use debt to finance assets and potentially generate higher returns for equity holders, though it also increases risk.
Question 31
What is the purpose of a swap contract?
- a) To exchange one security for another at a future date
- b) To hedge interest rate or currency exchange risk
- c) To speculate on commodity prices
- d) To lock in the price of a stock option
Answer: b) To hedge interest rate or currency exchange risk
Explanation: A swap contract is used to exchange cash flows in the future, often to hedge against interest rate or currency exchange risks. It is not typically used for speculation.
Question 32
Which of the following is true about the relationship between risk and return?
- a) Higher risk is always associated with lower returns
- b) Higher risk is generally associated with higher returns
- c) Lower risk guarantees higher returns
- d) Risk and return are unrelated
Answer: b) Higher risk is generally associated with higher returns
Explanation: In general, higher-risk investments offer the potential for higher returns, but they also come with the possibility of greater losses.
Question 33
A company has $1,000,000 in assets and $600,000 in liabilities. If the company has 100,000 shares outstanding, what is its book value per share?
- a) $4.00
- b) $6.00
- c) $8.00
- d) $10.00
Answer: b) $4.00
Explanation: Book value per share is calculated as (Total Assets - Total Liabilities) / Number of Shares Outstanding. In this case: ($1,000,000 - $600,000) / 100,000 = $4.00.
Question 34
What is the primary benefit of diversification in a portfolio?
- a) It guarantees no losses
- b) It reduces unsystematic risk
- c) It increases returns in the long run
- d) It eliminates market risk
Answer: b) It reduces unsystematic risk
Explanation: Diversification reduces unsystematic (company-specific) risk by spreading investments across different assets. However, it does not eliminate market risk.
Question 35
A company has a Return on Equity (ROE) of 15% and a payout ratio of 40%. What is the company’s sustainable growth rate (SGR)?
- a) 6.0%
- b) 7.5%
- c) 9.0%
- d) 10.5%
Answer: b) 9.0%
Explanation: The SGR is calculated as ROE × (1 - Payout Ratio). In this case: 15% × (1 - 0.40) = 9.0%.
Question 36
A company’s debt-to-equity ratio is 0.75, and its total liabilities are $750,000. What is the company’s equity?
- a) $500,000
- b) $600,000
- c) $700,000
- d) $1,000,000
Answer: d) $1,000,000
Explanation: Debt-to-equity ratio is calculated as Total Debt / Total Equity. Rearranging the formula, Total Equity = Total Debt / Debt-to-Equity Ratio. In this case: $750,000 / 0.75 = $1,000,000.
Question 37
What is the purpose of the time value of money concept in finance?
- a) To calculate the amount of dividends paid
- b) To determine the present value of future cash flows
- c) To calculate a company’s book value
- d) To estimate a company’s net income
Answer: b) To determine the present value of future cash flows
Explanation: The time value of money recognizes that a dollar today is worth more than a dollar in the future due to the potential earning capacity. It is used to calculate the present value of future cash flows.
Question 38
A company’s stock has a P/E ratio of 20 and earnings per share (EPS) of $3. What is the company’s stock price?
- a) $50
- b) $55
- c) $60
- d) $65
Answer: c) $60
Explanation: The stock price is calculated as P/E ratio × EPS. In this case: 20 × $3 = $60.
Question 39
What is the purpose of the cash conversion cycle (CCC)?
- a) To calculate the time taken to convert cash into profits
- b) To measure how quickly a company can convert its inventory into cash
- c) To determine a company’s cash reserves
- d) To estimate the company’s net income
Answer: b) To measure how quickly a company can convert its inventory into cash
Explanation: The CCC measures the time taken to turn a company’s inventory into cash by tracking the time it takes to sell inventory, collect receivables, and pay payables.
Question 40
A company’s inventory turnover is 5, and its average inventory is $100,000. What is the company’s cost of goods sold (COGS)?
- a) $300,000
- b) $400,000
- c) $500,000
- d) $600,000
Answer: c) $500,000
Explanation: Inventory turnover is calculated as COGS / Average Inventory. Rearranging the formula: COGS = Inventory Turnover × Average Inventory. In this case: 5 × $100,000 = $500,000.
