Question: All else being equal, if a firm

> The idea that we can know the return on a security for each possible outcome is overly simplistic. However, even though we cannot possibly predict all possible outcomes, this fact has little bearing on the risk-free return. Explain why?

> Megan Gaumer expects to need $50,000 for a down payment on a house in six years. How much does she need to invest today in an account paying 7.25 percent in order to have $50,000 in six years?

> The correlation between stocks A and B is 0.50, while the correlation between stocks A and C is –0.5. You already own stock A and are thinking of buying either stock B or stock C. If you want your portfolio to have the lowest possible risk, would you buy

> Explain the economic role of brokers and dealers. How does each make a profit?

> What are the three fundamental decisions the financial manager is concerned with, and how do they affect the firm’s balance sheet?

> Describe the cash flows between a firm and its stakeholders?

> Explain how compound interest differs from simple interest?

> Explain the difference between compounding and discounting?

> Explain the importance of a time line?

> You are planning to take a spring break trip to Cancun your senior year. The trip is exactly two years away, but you want to be prepared and have enough money when the time comes. Explain how you would determine the amount of money you will have to save

> Explain the phrase “a dollar today is worth more than a dollar tomorrow”?

> Why is the ROE a more appropriate proxy (for stockholder value maximization) for some firms than for other firms?

> Give an example of a capital budgeting decision and a financing decision?

> How does financial leverage help stockholders?

> What additional information does the fixed asset turnover ratio provide over the total asset turnover ratio? For which industries does it carry greater significance?

> What does a very high inventory turnover ratio signify?

> Inventory is excluded when the quick ratio or acid-test ratio is calculated because inventory is the most difficult current asset to convert to cash without loss of value. What types of inventory are likely to be most easily converted to cash without los

> Why is too much liquidity not a good thing?

> Why is it not enough for an analyst to look at just the short-term and long-term debt on a firm’s balance sheet when assessing the firm’s fixed obligations?

> Why are retained earnings not considered an asset of the firm?

> Compare and contrast depreciation expense and amortization expense?

> Identify the five fundamental principles of GAAP, and explain briefly their importance?

> How does a firm’s cash flow to investors from operating activity differ from net income, and why?

> The equity multiplier for Spiffy Corporation is 1.75, its EBIT return on assets (EROA) is 0.07, and the value of its equity is $850,000. What is the value of Spiffy’s total assets? What is the value of its EBIT?

> What is a major reason for the accounting scandals in the early 2000s? How do firms sometimes attempt to meet Wall Street analysts’ earnings projections?

> How does Exhibit 2.5 help explain why interest rates were so high during the early 1980s as compared to the relatively low interest rates in the early 1960s?

> Shouldn’t the nominal rate of interest (Equation 2.1) be determined by the actual rate of inflation (∆Pa), which can be easily measured, rather than by the expected rate of inflation (∆Pe)?

> The CFO of a certain company always wears his green suit on a day that the firm is about to release positive information about his company. You believe that you can profit from this information by buying the firm’s shares at the beginning of every day th

> What is the compounding period for most bonds sold in the United States?

> Explain what a convertible bond is?

> What name is given to the relation between risk and expected return implied by the CAPM?

> How would you interpret a beta of 1.5 for an asset? A beta of 0.75?

> How is beta estimated?

> What are the two components of total risk?

> What type of return tells you the average compounded return earned by an investor?

> What relation do we generally observe between risk and return when we examine historical returns?

> What is the relation between the variance and the standard deviation?

> How do large corporations adjust their liquidity in the money markets?

> How is the expected return on an investment calculated?

> What are the two components of a total holding period return?

> What is the difference between the interest rate (i) and the growth rate (g) in the future value equation?

> What is the relation between the present value factor and the future value factor?

> What is the discount rate? How does the discount rate differ from the interest rate in the future value equation?

> What is the present value, and when is it used?

> What is the difference between simple interest and compound interest?

> Why is it important to look at a firm’s historical financial statements?

> What are the tax implications of a decision to finance a project using debt rather than new equity?

> Why is it important to consider the consequences of taxes when financing a new project?

> When determining the real interest rate, what happens to businesses that find themselves with unfunded capital projects whose rate of return exceeds the cost of capital?

> How does the calculation of net income differ from the calculation of cash flow to investors from operating activity?

> Explain the difference between cash flows from financing and investing activities?

> Name two working capital accounts that represent sources of cash for the firm?

> How do increases in fixed assets from one period to the next affect cash holdings for the firm?

> What accounting events trigger changes to the retained earnings account?

> How is net income computed?

> What is treasury stock?

> Explain the accounting concept behind depreciation?

> What is net working capital? Why might a low value for this number be considered undesirable?

> Give an example of a conflict of interest in a business setting, other than the one involving the real estate agent discussed in the chapter text?

> How are inflationary expectations accounted for in the nominal rate of interest?

> What is financial intermediation, and why is it important?

> How does information about a firm’s prospects get reflected in its share price?

> What are capital markets, and why are they important to corporations?

> What is the difference between primary and secondary markets?

> Why is it difficult for individuals to participate in the direct financial markets?

> What are the two basic ways in which funds flow through the financial system from lender–savers to borrower–spenders?

> How would you define an ethical business culture?

> List the three main objectives of the Sarbanes-Oxley Act?

> What are agency conflicts?

> What is the Sarbanes-Oxley Act, and what does it focus on? Why does it focus in these areas?

> Why does the internal auditor report to both the CFO and the board of directors?

> What are the major responsibilities of the CFO?

> Why are many businesses operated as sole proprietorships or partnerships?

> You have just invested in a portfolio of three stocks. The amount of money that you invested in each stock and its beta are summarized below. Calculate the beta of the portfolio and use the capital asset pricing model (CAPM) to compute the expected rate

> Given the following information from Capstone Corporation, what price would CAPM predict that the company’s stock will trade for 1 year from today. Assume that the risk free rate is 3 percent and that the market risk premium is 8 percent? Beta: ……………………

> Compare an annuity due with an ordinary annuity. The payments for both are made annually and are of the same dollar amounts. The two annuities also have the same duration in years and the same discount rate. Which of the following statements is /are corr

> What is the relation between business cycles and the general level of interest rates?

> If the nominal rate of interest is 4.25 percent and the expected rate of inflation is 1.75 percent, what is the real rate of interest?

> List the three forms of the efficient market hypothesis, and describe what information is assumed to be reflected in security prices under each of these hypotheses.

> You just purchased a share of IBM stock on the New York Stock Exchange. What kind of transaction was this? a. Primary market transaction. b. Secondary market transaction. c. Futures market transaction. d. Private placement.

> Identify the sources of agency costs. What are some ways these costs can be controlled in a company?

> Which of the following is/are advantages of the corporate form of organization? a. Reduced start-up costs b. Greater access to capital markets c. Unlimited liability d. Single taxation

> Which of the following classes of securities is likely to have the lowest corporate borrowing cost? (LO 5) a. AAA rated bonds. b. A rated bonds. c. BB rated bonds. d. C rated bonds. e. All of the above will have the same corporate borrowing cost.

> Given a change in market interest rates, which will change more; the market price of a bond with 20 years until maturity or the market price of a bond with 5 years until maturity? Assume all the characteristics of these bonds are identical except the mat

> Holding all else constant, what will happen to the present value of a future amount if you increase the discount rate? What if you increase the number of years?

> Primary Markets: Identify whether the following transactions are primary market or secondary market transactions. a. Jim Hendry bought 300 shares of IBM through his brokerage account. b. Peggy Jones bought $5,000 of General Motors bonds from another inve

> What is a primary market? What does IPO stand for?

> Tanner invested $1,000 in large U.S. stocks at the beginning of 2012. This investment earned 15.98 percent in 2012, 32.41 percent in 2013, 13.69 percent in 2014, and 1.41 percent in 2015. What return did he earn in the average year during the 2012 to 201

> Why are direct financial markets also called wholesale markets?

> DuPont analysis involves breaking return-on-assets ratios into their a. Profit components. b. Marginal and average components. c. Operating and financing components. d. Profit margin and turnover components.

> List the two ways in which a transfer of funds takes place in an economy. What is the main difference between these two?

> What are some of the major external and internal factors that affect a firm’s stock price? What is the difference between the two general types of factors?

> Last year ABC companies had accounts receivable turnover of 15, total asset turnover of 4.5, and total assets of $1,000,000. What was the value of ABC’s accounts receivable? What was the value of its net sales?

> Common-size analysis is used in financial analysis to: a. Evaluate changes in a company’s operating cycle over time. b. Predict changes in a company’s capital structure using regression analysis. c. Compare companies of different sizes or compare a compa

> Define systematic risk?

> Damien knows that the beta of his portfolio is equal to 1, but he does not know the risk-free rate of return or the market risk premium. He also knows that the expected return on the market is 8 percent. What is the expected return on Damien’s portfolio?

> Given the returns and probabilities for the three possible states listed below, calculate the covariance between the returns of Stock A and Stock B. For convenience, assume that the expected returns of Stock A and Stock B are 11.75 percent and 18 percent

> Kate recently invested in real estate with the intention of selling the property one year from today. She has modeled the returns on that investment based on three economic scenarios. She believes that if the economy stays healthy, then her investment wi

> Jose is thinking about purchasing a soft drink machine and placing it in a business office. He knows that there is a 5 percent probability that someone who walks by the machine will make a purchase from the machine, and he knows that the profit on each s

> Tonalli is putting together a portfolio of 10 stocks in equal proportions. What is the relative importance of the variance for each stock versus the covariance for the pairs of stocks in her portfolio? For this exercise, ignore the actual values of the v