Corporate Finance Homework 1

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Corporate Finance Homework 1 - Quiz

These are the homework questions for Chapter 1 in Corporate Finance.


Questions and Answers
  • 1. 

    Stadford, Inc. is financed with 40 percent debt and 60 percent equity. This mixture of debt and equity is referred to as the firm's:

    • A.

      Capital structure.

    • B.

      Capital budget.

    • C.

      Asset allocation.

    • D.

      Working capital.

    • E.

      Risk structure.

    Correct Answer
    A. Capital structure.
    Explanation
    The correct answer is capital structure. Capital structure refers to the mix of debt and equity financing that a company uses to fund its operations and investments. In this case, Stadford, Inc. is financed with 40 percent debt and 60 percent equity, indicating its capital structure. This composition of debt and equity determines the financial risk and cost of capital for the firm.

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  • 2. 

    The potential conflict of interest between a firm's owners and its managers is referred to as which type of conflict?

    • A.

      Agency

    • B.

      Structure

    • C.

      Territorial

    • D.

      Organizational

    • E.

      Formation

    Correct Answer
    A. Agency
    Explanation
    The potential conflict of interest between a firm's owners and its managers is referred to as agency conflict. This conflict arises because managers may prioritize their own interests over the interests of the owners, leading to a divergence in goals and objectives. The owners want to maximize shareholder value, while managers may focus on their own job security, power, and compensation. This conflict can be mitigated through various mechanisms such as aligning incentives, monitoring, and effective corporate governance.

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  • 3. 

    The "Say on Pay" bill requires corporations to do which one of the following?

    • A.

      Give the firm's creditors a binding say on executive pay

    • B.

      Give shareholders a nonbinding vote on executive pay

    • C.

      Give shareholders a binding vote on executive pay

    • D.

      Give the chairman of the board the final say on executive pay

    • E.

      Give the firm's creditors a nonbinding say on executive pay

    Correct Answer
    B. Give shareholders a nonbinding vote on executive pay
    Explanation
    The "Say on Pay" bill requires corporations to give shareholders a nonbinding vote on executive pay. This means that shareholders have the opportunity to express their opinion on executive compensation, but the vote does not have the power to directly enforce changes in pay. The purpose of this requirement is to increase transparency and accountability in corporate governance by giving shareholders a voice in executive compensation decisions.

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  • 4. 

    Which one of the following functions should be assigned to the treasurer rather than the controller?

    • A.

      Cash management

    • B.

      Data processing

    • C.

      Cost accounting

    • D.

      Financial accounting

    • E.

      Tax management

    Correct Answer
    A. Cash management
    Explanation
    The treasurer is responsible for managing the organization's cash flow, including monitoring and controlling the company's cash balances, optimizing liquidity, and making decisions related to short-term investments and financing. Cash management involves activities such as cash forecasting, budgeting, and managing working capital. On the other hand, the controller is responsible for financial reporting, budgeting, and financial analysis. While both roles are important, cash management specifically falls under the treasurer's purview as it requires a focus on liquidity and short-term financial decision-making.

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  • 5. 

    Which one of the following is a working capital decision?

    • A.

      What is the cost of debt financing?

    • B.

      What debt-equity ratio is best suited to our firm?

    • C.

      How should the firm raise additional capital to fund its expansion?

    • D.

      Which type of debt is best suited to finance our inventory?

    • E.

      How much cash should the firm keep in reserve?

    Correct Answer
    E. How much cash should the firm keep in reserve?
    Explanation
    The question asks for a working capital decision, which refers to the management of a company's short-term assets and liabilities. Out of the given options, "How much cash should the firm keep in reserve?" is the only one that directly relates to working capital. This decision involves determining the appropriate level of cash reserves that the company should maintain to meet its short-term obligations, such as paying suppliers and covering unexpected expenses.

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  • 6. 

    Which one of the following is a capital structure decision?

    • A.

      Selecting new equipment to purchase

    • B.

      Determining the optimal inventory level

    • C.

      Establishing the preferred debt-equity level

    • D.

      Setting the terms of sale for credit sales

    • E.

      Determining when suppliers should be paid

    Correct Answer
    C. Establishing the preferred debt-equity level
    Explanation
    Establishing the preferred debt-equity level is a capital structure decision because it involves determining the proportion of debt and equity financing that a company will use to fund its operations and investments. This decision has a significant impact on the company's overall financial risk, cost of capital, and potential for growth and profitability. By setting the preferred debt-equity level, the company is making a strategic choice about how it will finance its activities and structure its balance sheet.

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  • 7. 

    The daily financial operations of a firm are primarily controlled by managing the:

    • A.

      Working capital.

    • B.

      Total debt level.

    • C.

      Long-term liabilities.

    • D.

      Capital budget.

    • E.

      Capital structure.

    Correct Answer
    A. Working capital.
    Explanation
    The daily financial operations of a firm, such as managing cash flow, inventory, and short-term liabilities, are primarily controlled by working capital. Working capital represents the difference between a company's current assets and current liabilities, and it is used to finance the day-to-day operations of the business. It ensures that the company has enough funds to cover its short-term obligations and maintain smooth operations. Total debt level, long-term liabilities, capital budget, and capital structure are all important factors in managing a firm's finances, but they do not directly control the daily financial operations like working capital does.

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  • 8. 

    Limited liability companies are primarily designed to:

    • A.

      Provide the benefits of the corporate structure to foreign-based entities.

    • B.

      Allow companies to reorganize themselves through the bankruptcy process.

    • C.

      Provide limited liability while avoiding double taxation.

    • D.

      Allow a portion of its owners to enjoy limited liability while granting the other portion of its owners control over the entity.

    • E.

      Spin-off a wholly-owned subsidiary.

    Correct Answer
    C. Provide limited liability while avoiding double taxation.
    Explanation
    Limited liability companies (LLCs) are primarily designed to provide limited liability while avoiding double taxation. This means that the owners or members of an LLC are not personally liable for the company's debts or liabilities. Additionally, an LLC is not subject to corporate taxation, as the profits and losses are passed through to the owners and reported on their individual tax returns. This allows the owners to avoid the double taxation that occurs with traditional corporations, where both the corporation and the shareholders are taxed on the company's profits.

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  • 9. 

    The primary goal of financial management is to maximize which one of the following for a corporation?

    • A.

      Revenue growth

    • B.

      Market value of existing stock

    • C.

      Number of shares outstanding

    • D.

      Current profits

    • E.

      Market share

    Correct Answer
    B. Market value of existing stock
    Explanation
    The primary goal of financial management is to maximize the market value of existing stock for a corporation. This means that the financial management team aims to increase the value of the company's stock, which is determined by factors such as profitability, growth potential, and market perception. By maximizing the market value of the stock, the company can attract more investors and potentially raise more capital for future growth and expansion.

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  • 10. 

    The Sarbanes-Oxley Act of 2002 has:

    • A.

      Decreased senior management's involvement in the corporate annual report.

    • B.

      Decreased the number of U.S. firms going public on foreign exchanges.

    • C.

      Made officers of publicly traded firms personally responsible for the firm's financial statements.

    • D.

      Reduced the annual compliance costs of all publicly traded firms in the U.S.

    • E.

      Greatly increased the number of U.S. firms that are going public for the first time.

    Correct Answer
    C. Made officers of publicly traded firms personally responsible for the firm's financial statements.
    Explanation
    The Sarbanes-Oxley Act of 2002 holds officers of publicly traded firms personally responsible for the accuracy and integrity of the company's financial statements. This means that executives can be held personally liable for any misrepresentation or fraud in the financial reports. The act was enacted in response to accounting scandals such as Enron and WorldCom, with the aim of improving corporate governance and financial transparency. By making officers accountable for the accuracy of financial statements, the act seeks to prevent fraudulent practices and protect investors.

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  • 11. 

    Which one of the following best describes the primary intent of the Sarbanes-Oxley Act of 2002?

    • A.

      Increase the number of firms that "go dark"

    • B.

      Decrease the number of publicly traded firms

    • C.

      Increase protection against corporate fraud

    • D.

      Limit secondary issues of corporate securities

    • E.

      Increase the costs of going public

    Correct Answer
    C. Increase protection against corporate fraud
    Explanation
    The primary intent of the Sarbanes-Oxley Act of 2002 is to increase protection against corporate fraud. This act was enacted in response to several high-profile corporate scandals, such as Enron and WorldCom, which involved accounting fraud and misconduct. The act aims to improve corporate governance, enhance financial disclosures, and strengthen internal controls to prevent fraudulent activities within publicly traded companies. It establishes stricter regulations and requirements for financial reporting and auditing, with the goal of restoring investor confidence and promoting transparency and accountability in the corporate sector.

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  • 12. 

    Which one of the following situations is most apt to create an agency conflict?

    • A.

      Giving all employees a bonus if a certain level of efficiency is maintained

    • B.

      Selling an underproducing segment of the firm

    • C.

      Compensating a manager based on his or her division's net income

    • D.

      Rejecting a profitable project to protect employee jobs

    • E.

      Hiring an independent consultant to study the operating efficiency of the firm

    Correct Answer
    D. Rejecting a profitable project to protect employee jobs
    Explanation
    Rejecting a profitable project to protect employee jobs can create an agency conflict because it prioritizes the job security of employees over the financial success of the firm. This decision may be driven by the self-interest of managers who want to avoid the potential negative consequences of laying off employees, even if it is not in the best interest of the shareholders. This conflict arises because managers may prioritize their own goals and preferences over the goals of the shareholders, leading to a divergence of interests and potential loss of value for the firm.

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  • 13. 

    Which one of the following is most apt to create a situation where an agency conflict could arise?

    • A.

      Downsizing a firm

    • B.

      Reducing both management and non-management salaries

    • C.

      Increasing the size of a firm's operations

    • D.

      Separating management from ownership

    • E.

      Decreasing employee turnover

    Correct Answer
    D. Separating management from ownership
    Explanation
    Separating management from ownership is most apt to create a situation where an agency conflict could arise. When management is separated from ownership, the interests of the managers may not align with the interests of the shareholders/owners. This can lead to conflicts of interest, as managers may prioritize their own goals and objectives over maximizing shareholder value. This separation can create a principal-agent problem, where the owners (principals) need to monitor and align the actions of the managers (agents) to ensure that their interests are being protected.

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  • 14. 

    Which one of the following transactions occurred in the primary market?

    • A.

      Maria gave 100 shares of Alto stock to her best friend.

    • B.

      Gene purchased 300 shares of Alto stock from Ted.

    • C.

      South Wind Products sold 1,000 shares of newly issued stock to Mike.

    • D.

      The president of Trecco, Inc. sold 500 shares of Trecco stock to his son.

    • E.

      Terry sold 3,000 shares of Uno stock to his brother.

    Correct Answer
    C. South Wind Products sold 1,000 shares of newly issued stock to Mike.
    Explanation
    The correct answer is South Wind Products sold 1,000 shares of newly issued stock to Mike. This transaction occurred in the primary market because South Wind Products is selling newly issued stock directly to an investor, Mike. In the primary market, companies raise capital by issuing new securities, such as stocks or bonds, directly to investors. This is different from the secondary market, where investors trade previously issued securities among themselves. The other transactions mentioned involve the transfer of existing shares between individuals, which would typically occur in the secondary market.

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  • 15. 

    Valerie bought 200 shares of Able stock today. Able stock has been trading for some time on the NYSE. Valerie's purchase occurred in which market?

    • A.

      Over-the-counter market

    • B.

      Tertiary market

    • C.

      Primary market

    • D.

      Dealer market

    • E.

      Secondary market

    Correct Answer
    E. Secondary market
    Explanation
    Valerie's purchase of 200 shares of Able stock today occurred in the secondary market. The secondary market refers to the trading of existing securities among investors, rather than the initial issuance of securities. Since Able stock has been trading for some time on the NYSE, Valerie's purchase would fall into the secondary market category.

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Our quizzes are rigorously reviewed, monitored and continuously updated by our expert board to maintain accuracy, relevance, and timeliness.

  • Current Version
  • Sep 29, 2023
    Quiz Edited by
    ProProfs Editorial Team
  • May 01, 2011
    Quiz Created by
    Cbprice
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