BUAD 215/306

Exam 1 – Review Questions

1. A business that is a legal entity separate from the owners, yet treated as a legal person, is called
a(n):
A. corporation.
B. sole proprietorship.
C. general partnership.
D. limited partnership.
E. unlimited liability company.

2. Which of the following bonds has the highest YTM?

A. Price = $900, Coupon = 8.0%
B. Price = $1050, Coupon = 8.0 %
C. Price = $ 900, Coupon = 9.0 %
D. Price = $1150, Coupon = 6.0%

3. Which of the following is true?

A. A callable bond may be called by the investor and exchanged for shares of stock.
B. Bonds are more likely to be called when interest rates are low than when they are high.
C. Long maturity bond prices are not sensitive to changes in interest rates.
D. The interest on municipal bonds is subject to state tax but not to federal tax.
E. A convertible bond may be converted by the issuing company at any time.

4. You discover you can make above normal returns if you buy oil-company stocks just before noon on
any given trading day and then sell them immediately before the market closes that same day.
Which of the following describes this event?

A. This would not be a violation of market efficiency.

B. This would be a violation of weak form efficiency.
C. This would be a violation of semi-strong form efficiency.
D. This would be a violation of strong form efficiency.

5. Assume that markets are semi-strong form efficient. Suppose, then, that during a trading day,
important new information is released for the first time concerning a certain company. This
information indicates that one of the firm's oil fields, previously thought to be very promising, just
came up dry. How would you expect the price of a share of stock to react to this information?

A. The value of a share will fall over an extended period of time as investors begin to sell
shares in the company.
B. The value of a share will drop immediately to a price that reflects the value of the new
information.
C. The value of a share will fall below what is considered appropriate because of the
decreased demand for the shares, but eventually the price will rise to the correct level.
 D. The value of a share will rise over a long period of time as investors sell the stock.
E. The stock price will not change since this type of information has no impact in markets
that are semi-strong form efficient.

6. Which of the following is (are) included among the responsibilities of the financial manager?

A. helping determine which assets the firm should purchase.

B. determining the best way to finance the purchase of new assets.
C. making decisions that maximize the firm's stock price.
D. b and c are correct
E. a, b and c are correct

7. Which of the following statements is most correct?

A. A 5-year $100 annuity due will have a higher present value than a 5- year $100 ordinary
annuity.
B. A 15-year mortgage will have larger monthly payments than a 30-year mortgage of the
same amount and same interest rate.
C. If an investment pays 10 percent interest compounded annually, its effective rate will also
be 10 percent.
D. Statements a and c are correct.
E. All of the statements above are correct.

8. Which of the following bank accounts has the highest effective annual return?

A. An account which pays 10 percent nominal interest with monthly compounding.

B. An account which pays 10 percent nominal interest with daily compounding.
C. An account which pays 10 percent nominal interest with annual compounding.
D. An account which pays 9 percent nominal interest with daily compounding.
E. All of the investments above have the same effective annual return.

9. A $10,000 loan is to be amortized over 5 years, with annual end-of-year payments. Given the
following facts, which of these statements is most correct?

A. The annual payments would be larger if the interest rate were lower.
B. If the loan were amortized over 10 years rather than 5 years, and if the interest rate were
the same in either case, the first payment would include more dollars of interest under
the 5-year amortization plan.
C. The last payment would have a higher proportion of interest than the first payment.
D. The proportion of interest versus principal repayment would be the same for each of the
5 payments.
 E. The proportion of each payment that represents interest as opposed to repayment of
principal would be higher if the interest rate were higher.

10. Which of the following statements is most correct?

A. An investment which compounds interest semiannually, and has a nominal rate of 10

percent, will have an effective rate less than 10 percent.
B. The present value of a three-year $100 annuity due is less than the present value of a
three-year $100 ordinary annuity.
C. The proportion of the payment of a fully amortized loan which goes toward interest
declines over time.
D. Statements a and c are correct.
E. None of the answers above is correct.

11. Which one of the following questions involves a capital budgeting decision?
A. How many shares of stock should the firm issue?
B. Should the firm purchase a new machine for the production line?
C. Should the firm borrow money to acquire new equipment?
D. How much inventory should the firm keep on hand?
E. How much money should be kept in the checking account?

12. Which one of the following is a disadvantage of the corporate form of business?
A. Shareholders may experience limited liability.
B. Distributed profits may experience double taxation.
C. Raising capital may be more difficult than for other forms of business.
D. The firm may have unlimited life.
E. The firm may issue additional shares of stock.

13. This morning, Clayton deposited $2,500 into an account that pays 5 percent interest,
compounded annually. Also this morning, Jayda deposited $2,500 at 5 percent interest,
compounded annually. Clayton will withdraw his interest earnings and spend it as soon as possible.
Jayda will reinvest her interest earnings into her account. Given this information, which one of the
following statements is true?

A. Jayda will earn more interest in Year 1 than Clayton will earn.
B. Clayton will earn more interest in Year 3 than Jayda will earn.
C. Jayda will earn more interest in Year 2 than Clayton will earn.
D. After five years, Clayton and Jayda will both have earned the same amount of interest.
E. Clayton will earn compound interest.

14. Jared invested $100 two years ago at 8 percent interest. The first year, he earned $8 interest on
his $100 investment. He reinvested the $8. The second year, he earned $8.64 interest on his $108
investment. The extra $.64 he earned in interest the second year is referred to as:
A. free interest.
 B. bonus income.
C. simple interest.
D. interest on interest.
E. present value interest.

15. Nirav just opened a savings account paying 2 percent interest, compounded annually. After four
years, the savings account will be worth $5,000. Assume there are no additional deposits or
withdrawals. Given this information, Nirav:
A. will earn the same amount of interest each year for four years.
B. will earn simple interest on his savings every year for four years.
C. could have deposited less money today and still had $5,000 in four years if the account
paid a higher rate of interest.
D. has an account currently valued at $5,000.
E. could earn more interest on this account if the interest earnings were withdrawn annually.

16. Your aunt has promised to give you $5,000 when you graduate from college. You expect to
graduate three years from now. If you speed up your plans to enable you to graduate two years from
now, the present value of the promised gift will:
A. remain constant.
B. increase.
C. decrease.
D. equal $5,000.
E. be less than $5,000.

17. Which one of the following actions will increase the present value of an amount to be received
sometime in the future?
A. Increase in the time until the amount is received
B. Increase in the discount rate
C. Decrease in the future value
D. Decrease in the interest rate
E. Decrease in both the future value and the number of time periods

18. Claire’s coin collection contains fifty 1948 silver dollars. Her grandparents purchased them at
their face value in 1948. These coins have appreciated by 7.6 percent annually. How much is the
collection expected to be worth in 2025?
A. $13,611.18
B. $18,987.56
C. $14,122.01
D. $11,218.27
E. $14,077.16
19. You just invested $49,000 that you received as an insurance settlement. How much more will
this account be worth in 40 years if you earn an average return of 7.6 percent rather than 7.1
percent? (Assume annual compounding.)
A. $59,818.92
B. $98,509.16
C. $140,423.33
D. $155,986.70
E. $138,342.91

20. Assume your mother invested a lump sum 28 years ago at 4.05 percent interest, compounded
annually. Today, she gave you the proceeds of that investment, totaling $48,613.24. How much did
your mother originally invest?
A. $14,929.00
B. $16,500.00
C. $15,994.70
D. $14,929.29
E. $16,500.93

21. Project X has cash flows of $8,500, $8,000, $7,500, and $7,000 for Years 1 to 4, respectively.
Project Y has cash flows of $7,000, $7,500, $8,000, and $8,500 for Years 1 to 4, respectively. Which
one of the following statements is true concerning these two projects given a positive discount rate?
(No calculations needed.)

A. Both projects have the same future value at the end of Year 4.
B. Both projects have the same value at Time 0.
C. Both projects are ordinary annuities.
D. Project Y has a higher present value than Project X.
E. Project X has both a higher present and a higher future value than Project Y.

22. An amortized loan:

A. requires the principal amount to be repaid in even increments over the life of the loan.
B. may have equal or increasing amounts applied to the principal from each loan payment.
C. requires that all interest be repaid on a monthly basis while the principal is repaid at the
end of the loan term.
D. requires that all payments be equal in amount and include both principal and interest.
E. repays both the principal and the interest in one lump sum at the end of the loan term.

23. Excellent Yachting is considering acquiring Turquoise Tours. Management believes Turquoise
Tours can generate cash flows of $218,000, $224,000, and $238,000 over the next three years,
respectively. After that time, they feel the business will be worthless. If the desired rate of return is
14.5 percent, what is the maximum Excellent Yachting should pay today to acquire Turquoise
Coast?

A. $519,799.59
B. $538,615.08
C. $545,920.61
D. $595,170.53
E. $538,407.71

24. A friend agreed to lend you money today. You must repay your friend by making payments of
$30 per month for the next six months. The first payment must be paid today. In addition, you must
pay 2 percent interest per month. How much total interest will you end up paying your friend?
 A. $4.50
B. $3.60
C. $9.50
D. $4.68
E. $8.60

25. Sai purchased a car today at a price of $8,500. He paid $600 down in cash and financed the
balance for 48 months at 5.4 percent per year compounded monthly. What is the amount of each
monthly loan payment?
A. $1,997.27
B. $183.37
C. $463.75
D. $197.29
E. $187.39

26. Stephanie is going to contribute $160 on the first of each month, starting today, to her retirement
account. Her employer will provide a match of 50 percent. In other words, her employer will add $80
to the amount Stephanie saves. If both Stephanie and her employer continue to do this and she can
earn a monthly interest rate of .45 percent, how much will she have in her retirement account 35
years from now?
A. $336,264.14
B. $204,286.67
C. $199,312.04
D. $268,418.78
E. $299,547.97

27. Which one of the following relationships applies to a par value bond?
A. Yield to maturity > Current yield > Coupon rate
B. Coupon rate > Yield to maturity > Current yield
C. Coupon rate = Current yield = Yield to maturity
D. Coupon rate < Yield to maturity < Current yield
E. Coupon rate > Current yield > Yield to maturity