FIN 072 FINANCIAL MARKETS

CAPITAL BUDGETING

1. The capital budgeting decision depends in part on the following except

A. Time Value of Money
B. Availability of funds.
C. Risk associated with a particular project.
D. Relationships among proposed projects.

2. Most commonly used methods for capital budgeting include all of the following except:.
A. payback period
B. net present value
C. Internal Rate of Return
D. Modified Internal Rate of Return

3. Which of the following is a typical cash flow related to equipment purchase and replacement decisions?
A. Increased operating costs
B. Depreciation expense
C. Amortization Cost
D. Unrealized Gains

4. The net present value and internal rate of return methods of capital budgeting are superior to the payback method in that
they:
A. require less input.
B. consider the time value of money.
C. are easier to implement
D. reflect the effects of depreciation and income taxes

5. The regular payback method has a number of disadvantages, some of which are listed below. Which of these items is an
advantage of this method?
A. Lack of an objective, market-determined benchmark for making decisions.
B. It provides any indication about a project’s liquidity.
C. It directly accounts for the time value of money.
D. Ignores cash flows beyond the payback period

6. The use of an accelerated method instead of the straight-line method of depreciation in computing the net present value
of a project has the effect of
A. Raising the hurdle rate necessary to justify the project.
B. Lowering the net present value of the project.
C. Increasing the present value of the depreciation tax shield.
D. Increasing the cash outflows at the initial point of the project.

7. If the internal rate of return is used as the discount rate and it equates to minimum required rate of return, the net
present value will be
A. positive
B. zero.
C. negative.
D. undeterminable.

8. Depreciation is incorporated explicitly in the discounted cash flow analysis of an investment

 A. is a cost of operations that cannot be avoided.
B. Is a cash inflow.
C. Reduces the cash outlay for income taxes.
D. Represents the initial cash outflow spread over the life of the investment.

9. The recommended technique for evaluating projects when capital is rationed and there are no mutually exclusive
projects from which to choose is to rank the projects by
A. Accounting rate of return.
B. Payback.
C. Internal rate of return.
D. Profitability index.

10. When ranking two mutually exclusive investments with different initial amounts, management should give first
priority to the project
A. That generates cash flows for a longer period of time.
B. Whose net after-tax flows equal the initial investment.
C. That has the greater accounting rate of return.
D. That has the greater profitability index.

Use the following information for the next 3 Questions

The CMA Corporation is considering the acquisition of a new machine at a cost of P180,000. Transporting the
machine to CMA's plant will cost P12,000. Installing the machine will cost an additional P18,000. It has a 10-year life and
is expected to have a salvage value of P10,000. Furthermore, the machine is expected to produce 4,000 units per year with
a selling price of P500 and combined direct materials and direct labor costs of P450 per unit. Tax regulations permit
machines of this type to be depreciated using the straight-line method over 5 years with no estimated salvage value.
Dickins has a marginal tax rate of 40%.

11. What is the net cash outflow at the beginning of the first year that Dickins should use in a capital budgeting analysis?
A. P(170,000)
B. P(180,000)
C. P(192,000)
D. P(210,000)

12. What is the net cash flow for the third year that Dickins Corporation should use in a capital budgeting analysis?
A. P136,800
B. P136,000
C. P128.400
D. P107,400

13. What is the approximate payback period on the new machine?

A. 1.05 years.
B. 1.54 years.
C. 1.33 years.
D. 2.22 years.

14. Which mutually exclusive project would you select, if both are priced at P1,000 and your discount rate is 15%, Project
A with three annual cash flows of P1,000, or Project B, with 3 years of zero cash flow followed by 3 years of P1,500
annually?
A. Project A.
B. Project B.
C. The IRRS are equal, hence you are indifferent.
D. The NPVs are equal, hence you are indifferent.
15. Pena Company is considering a project that calls for an initial cash outlay of P50,000. The expected net cash inflows
from the project are P7,791 for each of 10 years. What is the IRR of the project?
A. 6%
B. 7%
C. 8%
D. 9%

16-30 DIVIDEND POLICY

16. A business with decreasing revenue that aims to distribute dividends at a fixed rate each period
a. Will likely violate capital impairment restrictions frequently
b. will likely experience an increase in it payout ratio over time
c. will likely experience a decrease in its payout ratio over time
d. Will like experience stable additions to its retained earnings overtime

17. If managers only make a decision on dividends after considering all positive-NPV projects, they are adhering to...
a. Residual dividend policy
b. Excess dividend policy
c. Constant nominal payment dividend policy
d. Low -regular-and-extra dividend policy

18. The common stock of Pierson Enterprises has historically had a high dividend yield and is expected to continue to do
so. As a result, the majority of its shareholders are individuals and entities that are seeking a regular source of cash
income. Most of these shareholders pay either no taxes or a relatively low amount of taxes. The fact that most of these
shareholders have similar characteristics is referred to by which one of the following terms?
A. information content effect
B. clientele effect
C. efficient markets hypothesis
D. distribution effect
E. market reaction effect

19. A company's quarterly dividend payments have consistently been P2.00, with the exception of the quarter in which it
paid P3.00. The company had an unusually high level of earnings at the time, which it did not think would be sustainable.
What type of dividend policy is most likely to be represented by such a pattern?
a. Low-regular-and-extra dividend policy
b. Regular dividend policy
c. Constant payout dividend policy
d. Residual dividend policy

20. This is the most likely way to get money into your shareholders' hands if you are a part of a business that has a lot of
cash in its treasury and the Bureau of Internal Revenue suspects you of hoarding cash to avoid having to pay dividend
taxes on the money.
a. None of the above
b. Repurchase shares
c. Repurchase debt
d. Pay a cash dividend

21. What stockholder must possess the stock on what date in order to be paid a dividend?
a. announcement date
b. on the payment date
c. on the ex-dividend date
d. on the date of record

22. A company that pursues a dividend policy of paying a fixed amount of pesos each period is known as?
a. Earnings management policy
b. Constant payout ratio policy
c. Regular dividend policy
d. Low-regular and extra policy

23. What does the signaling model of dividends predict?

a. Stock prices will fall as the dividends increase
b. Low-quality firms will have large payouts due to poorer future prospects
c. Managers expecting higher future earnings “signal” these good investments using higher dividends
d. Managers of firms with high growth opportunities “signal” these good investments using low dividends

24. Which one of the following is a direct result of a 2-for-1 stock split?
A. a 100 percent increase in the number of shareholders
B. a 100 percent increase in the common stock account balance
C. a 100 percent decrease in the stock price
D. a 50 percent increase in the number of shares outstanding
E. a 50 percent decrease in the par value per share

25. Which of the following approaches is used to give shareholders cash?

a. Treasury Shares
b. Cash dividends
c. Both a and b
d. Property dividends

26. SPUK, Inc. just paid a 20% stock-dividend to its shareholders. The market price per share was P100 before the
dividend. If the company had 500 shares outstanding before the stock dividend, what should be the price of the shares
now?
a. P16.67
b. P83.33
c. P100
d. P125

27. Pan Corp. earned P10 per share in 2014 and paid a dividend of 13 (Php 3) per share. If it earns P12 in 2015 and
follows a constant payout ratio policy, its dividend will be
a. P0
b. P3
c. 3.60
d. undeterminable

28. Piccollo had after-tax earnings of P5,000,000 in 2014. The company needs P5,000,000 for new investments and plans
to finance 70% of those investments with debt. If Picollo follows a residual dividend policy, what total dividends will be
paid?
a. P0
b. P1,500.000
c. P3,500,000
d. P5,000,000

29. Mogul distributes a 20%-stock dividend. Before distributing the stock dividend, it had 20 million shares. How much
outstanding shares does the firm have after it makes the stock dividend distribution?
a. 24 million
b. 100 million
c. 10 million
d. none of the above

30. McSavers has the following data. If it follows the residual dividend model, what will its dividend payout ratio be?
Capital Budget P50,000 : % Debt 45% : Net Income P70,000
a. 28.57%
b. 32.14%
c. 39.29%
d. 60.71%

31-45 RISK MANAGEMENT AND DERIVATIVES

31. It is argued that effective risk management is vital to the survival of an organization because:
A. most business organizations are exposed to a wide variety of risks
B. many business failures can be attributed to inadequate policies
C. most organizations are exposed to interest rate risk
D. All of the given answers.

32. Derivative markets exist in order to:

A. allow for the direct cash sale of common shares
B. allow for the direct cash sale of corporate bonds
C. reduce the risk of exposure to price fluctuations in cash markets
D. overcome some of the information problems involved in trades in over-the counter markets

33. For a company the process of risk management needs to:

A. cover financial and operational risks only
B. cover business and operational risks only
C. be a structured process
D. be flexible as the nature of risk is dynamic

34. Suppose the price of the stock in a call option exceeds the exercise price at maturity date, the investor
will
A.️ exercise the call option.
B. will not exercise the call option since it is profitable for him.
C. will gain loss since his right to buy is no longer profitable.
D. will let the call option expire.

35. All are considerations to deal with risk except one. Which is not a consideration to deal with risk?
A. Avoidance of risk
B. Loss prevention and control
C. Detention of risk
D. Transfer of risk

36. What is the most important step in risk management process?

A. Risk Identification
B. Risk Evaluation
C. Considerations to deal with risk
D. Periodic Re-evaluation

37. You purchase one IBM July 120 put contract for a premium of $3. You hold the option until the expiration date when
IBM stock sells for $123 per share. You will realize a ______ on the investment.
A. $300 profit
B. $300 loss
C. $500 loss
D. $200

profit Long Put Profit = Max[0,($120 - $123)(100)] - $300 = -$300

38. On July 14, an investor goes short on a put option for 100 shares of OSC, Inc. common stock with a
strike price of P9.00, expiring on August 16, at an option premium of P1.50 per share. The market price of
OSC on July 14 is P8.00. On August 16, the market price of OSC was P11.00. How much has the investor
gained or lost on the option transaction? Disregard any brokerage commissions involved.
A. Loss of P150.
B. Loss of P50.
C. Gain of P200.
D. Gain of P150.

39. On July 14, an investor goes long on a call option for 100 shares of AMB Corporation common stock
with a strike price of P27.00, expiring on August 16, at an option premium of P4.50 per share. The market
price of AMB on July 14 is P31.00. On August 16, the market price of AMB was P25.00. How much has
the investor gained or lost on the option transaction? Disregard any brokerage commissions involved.
A. Gain of P150.
B. Gain of P450.
C. Loss of P450.
D. Loss of P250.

40. You purchase one IBM March 120 put contract for a put premium of $10. The maximum profit that you
could gain from this strategy is _________.
A. $120
B. $1,000
C. $11,000
D. $12,000

Profit = 100(120 - 10) = 11,000.00