Managerial Finance Midterm

True/FalseTwo important issues in corporate governance are (1) the rules that cover the board’s ability to fire the CEO and (2) the rules that cover the CEO’s ability to remove members of the board. False
True/FalseThe CEO of D’Amico Motors has been granted some stock options that have provisions similar to most other executive stock options. If D’Amico’s stock under-performs the market, these options will necessarily be worthless. False
Which of the following is NOT normally regarded as being a barrier to hostile takeovers?A. Targeted share repurchases.B. Shareholder rights provisions.C. Restricted voting rights.D. Poison pills.E. Abnormally high executive compensation. E. Abnormally high executive compensation.
Which of the following is NOT normally regarded as being a good reason to establish an ESOP?A. To enable the firm to borrow at a below-market interest rate.B. To make it easier to grant stock options to employees.C. To help prevent a hostile takeover.D. To help retain valued employees.E. To increase worker productivity. B. To make it easier to grant stock options to employees.
In the real world, dividendsA. are usually more stable than earnings.B. fluctuate more widely than earnings.C. tend to be a lower percentage of earning for mature firms.D. are usually changed every year to reflect earnings changes, and these changes are randomly higher or lower, depending on whether earnings increased or decreased. A. are usually more stable than earnings.
Which of the following would be most likely to lead to a decrease in a firm’s dividend payout ratio?A. Its access to the capital markets increases.B. Its R&D efforts pay off, and it now has more high-return investment opportunities. C. Its accounts receivable decrease due to a change in its credit policy.D. Its stock price has increased over the last year by a greater percentage than the increase in the broad stock market averages. B. Its R&D efforts pay off, and it now has more high-return investment opportunities.
Myron Gordon and John Lintner believe that they required return on equity increases as the dividend payout ratio is decreased. Their argument is based on the assumption thatA. investors require that the dividend yield and capital gains yield equal constant.B. capital gains are taxed at a higher rate than dividends.C. investors view dividends as being less risky than potential future capital gains.D. investors value a dollar of expected capital gains more highly than a dollar of expected dividends because of the lower tax rate on capital gains. C. investors view dividends as being less risky than potential future capital gains.
Which of the following statements is correct?A. One advantage of dividend reinvestment plans is that they enable investors to postpone paying taxes on the dividends credited to their accounts.B. Stock repurchases can be used by a firm that wants to increase its debt ratio.C. Stock repurchases make sense if a company expects to have a lot of profitable new projects to fund over the next few years, provided investors are aware of these investment opportunities.D. One advantage of an open market dividend reinvestment plan is that it provides new equity capital and increases the shares outstanding. B. Stock repurchases can be used by a firm that wants to increase its debt ratio.
What actions reduce agency cost of debt? Securing the loan with the company’s assets, placing restrictive covenants in debt agreements. The borrower must: maintain profitability ratios and retained earnings at a certain level before making any distributions to shareholders, maintain debt ratios at specified levels, and not issue more debt.
Some countries have legal system with poor investor protection Agency costs, such as perquisite consumption and wasteful acquisitions, are harder for investors to prevent. Low dividend payouts make more cash available for these activities.
What’s the “residual distribution model”? Find the reinvested earnings needed for the capital budget, pay out any leftover earnings (the residual) as either dividends or stock repurchases, and this policy minimizes flotation and equity signaling costs, hence minimizes the WACC. Also, only works for young companies.
True/FalseThe less sure a firm is about an idea, the more likely they will go to equity rather than their shareholders. True
True/FalseIf you’re a highly variable cost business, you can essentially pack up shop whenever True. But, if a highly variable cost business goes down, it goes down worse than if they had a lot of fixed and/or operating costs.
What’s the difference between business risk (operational leverage) and financial risk? Business risk does not come from debt.
What’s the difference between relaxed, restrictive, and moderate policy? Relaxed holds a lot of cash, receivables, and inventories relative to sales, high level of assets, low total assets turnover ratio, low ROE. Restrictive current assets minimized, firm’s policy is tight or lean and mean, exposed firm to risk. Moderate fall in between
Which of the following is NOT associated with (or does not contribute to) business risk? Recall that business risk is affected by a firm’s operations.A. Sales price variability.B. The extent to which operating cots are fixed.C. The extent to which interest rates on the firm’s debt fluctuate.D. Input price variability. C. The extent to which interest rates on the firm’s debt fluctuate.
Which of the following statements is CORRECT?A. The capital structure that minimizes the interest rate on debt also maximizes the expected EPS.B. The capital structure that minimizes the required return on equity also maximizes the stock price.C. The capital structure that minimizes the WACC also maximizes the price per share of common stock.D. The capital structure that gives the firm the best credit rating also maximizes the stock price. C. The capital structure that minimizes the WACC also maximizes the price per share of common stock.
Which of the following statements best describes the optimal capital structure? The optimal capital structure is the mix of debt, equity, and preferred stock that maximizes the company’s ________.A. stock price.B. cost of equity.C. cost of debt.D. Cost of preferred stock. A. stock price.
Other things held constant, which of the following events is most likely to encourage a firm to increase the amount of debt in its capital structure?A. The costs that would be incurred in the event of bankruptcy increase.B. Management believes that the firm’s stock has become overvalued.C. Its degree of operating leverage increases.D. The corporate tax rate increases. D. The corporate tax rate increases.
Which of the following statements is correct?A. The capital structure that minimizes a firm’s WACC is also the capital structure that minimizes its stock price.B. The capital structure that minimizes the firm’s weighted average cost of capital is also the capital structure that maximizes its earnings per share.C. If a firm finds that the cost of debt is less than the cost of equity, increasing its debt ratio must reduce its WACC.D.Other things held constant, if corporate tax rates declined, then the Modigliani-Miller tax-adjusted tradeoff theory would suggest that firms should increase their use of debt. A. The capital structure that minimizes a firm’s WACC is also the capital structure that minimizes its stock price.
True/FalseDifferent borrowers have different risks of bankruptcy, and bankruptcy is costly to lenders. Therefore, lenders charge higher rates to borrowers judged to be more at risk of going bankrupt. True
The major contribution of the Miller model is that it demonstrates that.A. personal taxes decrease the value of using corporate debt.B. Financial distress and agency costs reduce the value of using corporate debt.C. equity costs increase with financial leverage. A. personal taxes decrease the value of using corporate debt.
True/FalseNet working capital is defined as current assets dived by current liabilities False
Which of the following will cause an increase in net working capital, other things held constant?A. A cash dividend is declared and paid.B. Merchandise is sold at a profit, but the sale is on credit.C. Long-term bonds are retired with the proceeds of a preferred stock issue.D. Cash is used to buy marketable securities. B. Merchandise is sold at a profit, but the sale is on credit.
Firms generally choose finance temporarily current operating assets with short-term debt becauseA. short-term interest rates have traditionally been more stable than long-term interest rates.B. short-term interest rates have traditionally been more stable than long-term interest rates.C. the yield curve is normally downward sloping.D. matching the maturities of assets and liabilities reduce risk under some circumstances, and also because short-term debt is often less expensive than long-term capital. D. matching the maturities of assets and liabilities reduce risk under some circumstances, and also because short-term debt is often less expensive than long-term capital.
Which of the following actions should Reece Windows take if it wants to reduce its cash conversion cycle?A. Take steps to reduce the DSO.B. Start paying its bills sooner, which would reduce the average accounts payable but not affect sales.C. Sell an issue of long-term bonds and use the proceeds to buy back some of its common stock.D. Increase average inventory without increasing sales. A. Take steps to reduce the DSO.
A lockbox plan isA. used to identify inventory safety stocks.B. used to slow down the collection of checks our firm writes.C. used to speed up the collection of checks received.D. used primarily by firms where currency is used frequently in transactions, such as fast food restaurants, and less frequently by firms that receive payments as checks. C. used to speed up the collection of checks received.
Which of the following is NOT commonly regarded as being a credit policy variable?A. Collection policy.B. Credit standards.C. Payments deferral period.D. Credit period. C. Payments deferral period.
True/FalseAn informal line of credit and a revolving credit agreement are similar except that the line of credit creates a legal obligation for the bank and thus is a more reliable source of funds for the borrower. False
Frost Co. has the following data. Assuming a 365-day year, what is the firm’s CCC?Annual sales = $45,000Annual COGS = $31,500Inventory = $4,000Accounts receivable = $2,000Accounts payable = $2,400A. 25 daysB. 28 daysC. 31 daysD. 35 days D. 35 days

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