D364 Financial Management - Set 1 - Part 2

Correct Answer: 5%

The dividend yield is calculated by dividing the annual dividend by the stock price. In this case, $3 / $60 = 0.05 or 5%.

Correct Answer: Reducing inventory levels

Reducing inventory decreases current assets, which lowers working capital. Increasing cash or delaying payments would increase working capital, while taking on more debt impacts liquidity but not directly working capital.

Correct Answer: An economic recession

Systematic risk affects the entire market or economy, such as a recession. The other options are examples of unsystematic (company-specific) risks.

Correct Answer: Price per share / Earnings per share

The P/E ratio is calculated as the stock price divided by earnings per share, which helps investors assess how much they are paying for each dollar of earnings.

Correct Answer: The potential gain lost by choosing one option over another

Opportunity cost represents the benefits an individual or company misses out on when choosing one alternative over another. It does not refer to incurred costs or financing expenses.

Correct Answer: A premium

When the coupon rate exceeds current market rates, the bond offers more attractive interest payments than newly issued bonds, so investors are willing to pay more than face value (a premium).

Correct Answer: Asset Turnover

The asset turnover ratio measures how efficiently a company uses its assets to generate sales. The other ratios focus on liquidity, leverage, and profitability.

Correct Answer: $1.00

Earnings per share is calculated as net income divided by the number of shares outstanding. In this case, $500,000 / 1,000,000 = $0.50.

Correct Answer: It provides flexibility in borrowing amounts

A revolving credit agreement allows companies to borrow as needed up to a specified limit, giving flexibility in borrowing amounts. Interest rates and collateral requirements may vary depending on the agreement.

Correct Answer: Return on Equity (ROE)

ROE measures the companys ability to generate earnings from equity, while ROA measures profitability from assets. Current Ratio and P/E measure liquidity and valuation, respectively.

Correct Answer: When the cost of debt is lower than the cost of equity

Firms prefer issuing debt over equity when the cost of debt is lower, as it reduces financing costs and preserves ownership, unlike equity financing, which dilutes ownership.

Correct Answer: It is the return required by equity investors

The cost of equity is the return investors expect for their investment in the companys equity. It is not a loan interest rate and can vary depending on the market and company risk.

Correct Answer: ROE (1 - Dividend Payout Ratio)

The sustainable growth rate represents how fast a company can grow without needing additional financing and is calculated as ROE (1 - Dividend Payout Ratio).

Correct Answer: 1.5

The equity multiplier is calculated as Total Assets / Equity. In this case, $500,000 / $300,000 = 1.5. The higher the equity multiplier, the more the company is using debt to finance its assets.

Correct Answer: The effective interest rate on borrowed funds

The cost of debt is the effective interest rate a company pays on its borrowed funds, reflecting the cost of financing through debt.

Correct Answer: Increases financial risk

A higher debt-to-equity ratio increases financial risk because the company becomes more reliant on debt, which creates obligations for interest and principal payments.

Correct Answer: Common stockholders have a residual claim on assets

Common stockholders have a residual claim, meaning they receive whatever remains after debt and preferred shareholders are paid in the event of liquidation.

Correct Answer: Eurobond

A Eurobond is issued in a country other than the one in whose currency it is denominated. Yankee, Samurai, and Bulldog bonds are issued in foreign countries but denominated in the local currency.

Correct Answer: 30%

Operating leverage magnifies the impact of changes in sales on operating income. With an operating leverage of 3, a 10% increase in sales would result in a 30% increase in operating income (10% 3).

Correct Answer: The IRR is equal to 8%

When a projects NPV is zero, the internal rate of return (IRR) is exactly equal to the companys cost of capital, meaning the project earns just enough to cover the cost of the investment.