Finance Final Exam Questions and Answers, Exams of Banking and Finance

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BCOR 2204 - Finance Final Exam Question and

Answers (76 terms)

Bonds - Correct answer Debt issued by companies or state, local, and federal governments. Factors that Influence Equilibrium Interest Rate - Correct answer Inflation Risk Liquidity Preference R* - Correct answer Real Rate of Interest Real Rate of Interest - Correct answer The rate that creates equilibrium between the supply of savings and the demand for investment funds. Changes with changing economic conditions, tastes, and preferences. R_1 - Correct answer Nominal Rate of Interest R_f + R_p Nominal Rate of Interest - Correct answer The actual rate of interest charged by the supplier of funds and paid by the demander. R_f - Correct answer Risk-Free Rate of Return RP_1 - Correct answer Risk Premium Rate of Return Inflation Premium (IP) - Correct answer A premium equal to expected inflation that investors add to the risk-free rate of return. Term Structure of Interest Rates - Correct answer The relationship between the maturity and the rate of returns for bonds with similar levels of risk. Yield to Maturity (YTM) - Correct answer The compounded annual rate of return investors earn if they buy a bond at a specific price and hold it until maturity. Yield Curve - Correct answer A graph showing the relationship between bond yields and maturities. Inverted Yield Curve - Correct answer A downward sloping yield curve that indicates that short term interest rates are generally higher than long term interest rates. Flat Yield Curve - Correct answer A yield curve that indicates that interest rates do not vary much at different maturities.

Normal Yield Curve - Correct answer An upward-sloping yield curve indicates that long- term interest rates are generally higher than short-term interest rates. Coupon Interest Rate - Correct answer The percentage of a bond's par value that will be paid annually. Par Value - Correct answer The amount owed to a bond holder on the maturity date. $1000. Conversion Feature - Correct answer Allows bondholders to change each bond into a stated number of shares of common stock. Call Feature - Correct answer Allows bondholders to repurchase bonds at a stated call price prior to maturity. YTM > Coupon - Correct answer Discount. Less than par. YTM < Coupon - Correct answer Premium. More than par. YTM = Coupon - Correct answer Par. $1000. Interest Rate Risk - Correct answer The chance that interest rates will change and thereby change the required return and bond value. Bond Value Behavior - Correct answer When interest rates change, the longer the maturity the larger impact on the price. Debt (Bonds) - Correct answer Includes borrowing incurred by a firm, including bonds, and is repaid according to a fixed schedule of payments. Equity (Stocks) - Correct answer Consists of funds provided by the firm's owners (investors or stockholders) that are repaid subject to the firm's performance. Voice in Management - Correct answer Bonds - Do not have general rights in the firm and rely on contractual obligations in the bonds. Stock - Owners of the firm and posses voting rights to express opinions on the directors/special issues. Maturity - Correct answer Bonds - Equity capital is a permanent form of capital Stock - Equity has no maturity date and never has to be repaid by the firm. Tax Treatment - Correct answer Bonds - Interest payments are treated as tax- deductible expenses. Stock - Dividend payments to stockholders are NOT tax-deductible.

Authorized Shares - Correct answer Shares of common stock that a firm's corporate charter allows it to use. Outstanding Shares - Correct answer Issues of shared common stock held by private or public investors. Treasury Stock - Correct answer Issued share of common stock held by the firm. Issued Shares - Correct answer Shares of common stock that have been put into circulation. Outstanding shares + treasury stock Preferred vs Common Stockholders - Correct answer - Preferred stockholders MUST be paid before dividends are paid to common stockholders.

• Common stockholder are NOT promised a dividend. Going Pubic in Market - Correct answer 1. Public Offering

2. Rights Offering
3. Private Placement Public Offering - Correct answer When a firm offers its shares for sale to the general public. Rights Offering - Correct answer When new shares are sold to existing shareholders. Private Placement - Correct answer When a firm sells new securities directly to an investor or group of investors. Cost of Capital - Correct answer Represents the firm's cost of financing and is the minimum rate of return that a project must earn to increase the firms value. Weighted Average Cost of Capital (WACC) - Correct answer The rate of return expected by all investors. Reflects the expected average future cost of capital over the long run. r_a - Correct answer Weighted Average Cost of Capital (WACC) w_i - Correct answer Proportion of long-term debt in a capital structure. r_i - Correct answer After-tax cost of debt. WHEN THERE'S TAX: (1-T)*r_d w_p - Correct answer Proportion of preferred stock in a capital structure. r_p - Correct answer Cost of preferred stock. NO GROWTH.

w_s - Correct answer Proportion of common stock equity in a capital structure. r_s - Correct answer Cost of common stock. Also equal to r_r. r_r - Correct answer Cost of retained earnings. Also equal to r_s. r_n - Correct answer Cost of new common stock. Can substitute for r_s based on problem. r_d - Correct answer Before-tax cost of debt. Net Proceeds (N_p) - Correct answer The funds actually received by the firm from the sale of a security. Selling Price - Flotation Costs Flotation Costs - Correct answer Total costs of issuing and selling a security. Includes underwriting costs and administrative costs. Underwriting Costs - Correct answer Compensation earned by investment bankers for selling the security. Administrative Costs - Correct answer Issuer expenses such as legal, accounting, and printing. Capital Asset Pricing Model (CAPM) - Correct answer Describes the relationship between the required return, r_s, and the non-diversifiable risk of the firm. r_m - Correct answer Return on the market. CF_0 - Correct answer Beginning Cash Flows OCF - Correct answer Recurring Cash Flows CF_N - Correct answer End of Life Cash Flows Savage Value (SV) - Correct answer Projects that may involve the sale of assets or the incursion of expenses. After-Tax Savage Value - Correct answer Savage Value * (1-Tax Rate) NWC Recovery - Correct answer A cessation of sales causes a decrease in Accounts Receivable, Inventory, and Accounts Payable. Capital Budgeting - Correct answer Process of evaluating and selecting long-term investments that are consistent with the firm's goal of maximizing shareholder wealth.

Capital Expenditure - Correct answer An outlay of funds by the firm that is expected to produce benefits over a period of time greater than one year. Operating Expenditure - Correct answer An outlay of funds by the firm resulting in benefits received within one year. Independent Projects - Correct answer Projects whose cash flows are unrelated to (or independent of) one another; the acceptance of one DOES NOT eliminate others from future consideration. Mutually Exclusive Projects - Correct answer Projects that compete with one another, so the acceptance of one ELIMINATES all other similar projects from future consideration. Unlimited Funds - Correct answer The financial situation in which a firm is able to accept all independent projects that provide an acceptable return. Capital Rationing - Correct answer The financial situation in which a firm has only a fixed number of dollars available for capital expenditures. Accept-Reject Approach - Correct answer The evaluation of capital expenditure proposals to determine whether they meet the firm's minimum acceptance criteria. Ranking Approach - Correct answer The ranking of capital expenditure projects on the basis of some predetermined measure. Payback Method - Correct answer The amount of time required for a firm to recover its initial investment in a project, calculated from cash inflows. Net Present Value (NPV) - Correct answer The value in the present of a sum of money, in contrast to some future value it will have when it has been invested at compound interest. Internal Rate of Return (IRR) - Correct answer The discount rate that equates NPV of an investment opportunity with zero. When to Take a Project - Correct answer NPV > 0 IRR > WACC Depreciation (Formula) - Correct answer (Capital Expenditure / Number of Years)