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Q:
When evaluating an acquisition, you should do which of the following:
a. Ignore market values of assets and focus on book value
b. Ignore the timing of when the cash flows will be received
c. Ignore acquisition fees and transaction costs
d. Apply the discount rate that is relevant to the incremental cash flows
e. Ignore potential losses of management talent
Q:
Which of the following is true about the variable growth model?
a. Present value equals the discounted sum of the annual forecasts of cash flow
b. Present value equals the discounted sum of the annual forecasts of cash flow plus the discounted value of the terminal value
c. Present value equals the discounted value of the next years cash flow grown at a constant rate in perpetuity
d. Present value equals the current years free cash flow discounted in perpetuity
e. None of the above
Q:
The strongest argument for an independent Federal Reserve rests on the view that subjecting the Fed to more political pressures would impart
A) an inflationary bias to monetary policy.
B) a deflationary bias to monetary policy.
C) a disinflationary bias to monetary policy.
D) a countercyclical bias to monetary policy.
Q:
Which of the following is true of the equity valuation model?
a. Discounts free cash flow to the firm by the weighted average cost of capital
b. Discounts free cash flow to equity by the cost of equity
c. Discounts free cash flow the firm by the cost of equity
d. Discounts free cash flow to equity by the weighted average cost of capital
e. None of the above
Q:
The theory of bureaucratic behavior when applied to the Fed helps to explain why the Fed
A) is supportive of congressional attempts to limit the central bank's autonomy.
B) is secretive about the conduct of future monetary policy.
C) sought less control over banks in the 1980s.
D) is willing to take on powerful groups that may threaten its autonomy.
Q:
The theory of bureaucratic behavior when applied to the Fed helps to explain why the Fed
A) resists so vigorously congressional attempts to limit the central bank's autonomy.
B) is secretive about the conduct of future monetary policy.
C) sought less control over banks in the 1980s.
D) all of the above.
E) only A and B of the above.
Q:
Which of the following is true of the enterprise valuation model?
a. Discounts free cash flow to the firm by the cost of equity
b. Discounts free cash flow to the firm by the weighted average cost of capital
c. Discounts free cash flow to equity by the cost of equity
d. Discounts free cash flow to equity by the weighted average cost of capital
e. None of the above
Q:
According to the theory of bureaucratic behavior,
A) the objective of a bureaucracy is to maximize its own welfare, meaning that it seeks additional power and prestige.
B) the bureaucracy will fight vigorously to preserve its autonomy; thus, it will attempt to avoid conflict with the president and Congress.
C) the bureaucracy will support legislation that gives it additional regulatory power.
D) all of the above describe bureaucratic behavior.
Q:
The zero growth model is a special case of what valuation model?
a. Variable growth model
b. Constant growth model
c. Delta growth model
d. Perpetuity valuation model
e. None of the above
Q:
According to the theory of bureaucratic behavior, the objective of bureaucracy is
A) to maximize its own welfare, meaning that it seeks additional power and prestige.
B) to maximize consumers' surplus, meaning that it seeks additional regulatory powers.
C) to protect the industry it regulates, meaning that it seeks additional regulatory powers.
D) none of the above.
Q:
For a firm having common and preferred equity as well as debt, common equity value can be estimated in which of the following ways?
a. By subtracting the book value of debt and preferred equity from the enterprise value of the firm
b. By subtracting the market value of debt from the enterprise value of the firm
c. By subtracting the market value of debt and the market value of preferred equity from the enterprise value of the firm
d. By adding the market value of debt and preferred equity to the enterprise value of the firm
e. By adding the market value of debt and book value of preferred equity to the enterprise value of the firm
Q:
The theory of bureaucratic behavior suggests that the Federal Reserve will
A) try to avoid a conflict with the president and Congress over increases in interest rates.
B) try to gain regulatory power over more banks.
C) devise clever strategies in an effort to avoid blame for poor economic performance.
D) do all of the above.
Q:
All of the following are true about the marginal tax rate for the firm except for
a. The marginal tax rate in the U.S. is usually about 40%.
b. The effective tax rate is usually less than the marginal tax rate.
c. Once tax credits have been used and the ability to further defer taxes exhausted, the effective rate can exceed the
marginal rate at some point in the future.
d. It is critical to use the effective tax rate in calculating after-tax operating income in perpetuity.
e. It is critical to use the marginal rate in calculating after-tax operating income in perpetuity.
Q:
The theory of bureaucratic behavior suggests that the objective of a bureaucracy is to maximize
A) the public's welfare.
B) its own welfare.
C) profits.
D) conflict between the executive and legislative branches of government.
Q:
The calculation of free cash flow to equity includes all of the following except for
a. Operating income
b. Preferred dividends
c. Change in working capital
d. Gross plant and equipment spending
e. Principal repayments
Q:
A trend in recent years is that more and more governments
A) have been granting greater independence to their central banks.
B) have been reducing the independence of their central banks to make them more accountable for poor economic performance.
C) have mandated that their central banks give up multiple policy goals to focus strictly on inflation.
D) have required their central banks to coordinate policies with their ministers of finance.
Q:
The calculation of free cash flow to the firm includes all of the following except for
a. Net income
b. Marginal tax rate
c. Change in working capital
d. Gross plant and equipment spending
e. Depreciation
Q:
The cost of capital reflects all of the following except for
a. Cost of equity
b. The firms beta
c. The book value of the firms debt
d. The after-tax cost of interest paid by the firm
e. The risk free rate of return
Q:
Which of the following central banks has the greatest degree of independence?
A) Bank of England
B) European Central Bank
C) Bank of Japan
D) Federal Reserve System
Q:
Which of the following is not true about the variable growth valuation model?
a. Assumes a high growth period followed by a stable growth period.
b. Assumes that the discount rate during the high and stable growth periods is the same.
c. Is used primarily to evaluate firms in high growth industries.
d. Involves the calculation of a terminal value.
e. The terminal value often comprises a substantial percentage of the total present value of the firm.
Q:
The newest central bank, which began operations in January 1999, is the
A) European Central Bank.
B) Bank of Argentina.
C) Bank of Korea.
D) Bank of New Zealand.
Q:
The oldest central bank, founded in 1694, is the
A) Bank of England.
B) Deutsche Bundesbank.
C) Bank of Japan.
D) Federal Reserve System.
Q:
Which of the following is not true about the constant growth valuation model?
a. The firms free cash flow is assumed to be unchanged in perpetuity
b. The firms free cash flow is assumed to grow at a constant rate in perpetuity
c. Free cash flow is discounted by the difference between the appropriate discount rate and the expected growth rate of cash flow.
d. The constant growth model is sometimes referred to as the Gordon Growth Model.
e. If the analyst were using free cash flow to the firm, cash flow would be discounted by the firms cost of capital less the expected growth rate in cash flow.
Q:
According to the textbook authors,
A) the Fed appears to be remarkably free of the political pressures that influence other government agencies.
B) since the president can protect the Fed from Congress, the Fed may be responsive to the president's policy preferences.
C) the Fed appears to be more responsive to the political pressures that influence other government agencies.
D) both A and B of the above.
E) both B and C of the above.
Q:
Which of the following factors is excluded from the calculation of free cash flow to the firm?
a. Principal repayments
b. Operating income
c. Depreciation
d. The change in working capital
e. Gross plant and equipment spending
Q:
According to the textbook authors, the Fed is
A) remarkably free of the political pressures that influence other government agencies.
B) more responsive to the political pressures that influence other government agencies.
C) probably somewhat constrained in its policymaking by the congressional threat to reduce Fed independence.
D) both A and C of the above.
Q:
A firms leveraged beta reflects all of the following except for
a. unleveraged beta
b. the firms debt
c. marginal tax rate
d. the firms cost of equity
e. the firms equity
Q:
Although it enjoys a high degree of autonomy, the Fed is still subject to the influence of Congress because
A) Congress can pass legislation that would restrict the Fed's independence.
B) Congress can withhold the Fed's budget requests.
C) Congress can remove members of the Board of Governors whose views on policy differ from those of key members of Congress.
D) All of the above.
Q:
Which one of the following factors is not considered in calculating the firms cost of capital?
a. cost of equity
b. interest rate on debt
c. the firms marginal tax rate
d. book value of debt and equity
e. the firms target debt to equity ratio
Q:
Which one of the following factors is not considered in calculating the firms cost of equity?
a. risk free rate of return
b. beta
c. interest rate on corporate debt
d. expected return on equities
e. difference between expected return on stocks and the risk free rate of return
Q:
Members of Congress are able to influence monetary policy, albeit indirectly, through their ability to
A) withhold appropriations from the Board of Governors.
B) withhold appropriations from the Federal Open Market Committee.
C) propose legislation that would force the Fed to submit budget requests to Congress, as must other government agencies.
D) do all of the above.
Q:
Whatever the analyst chooses to do with respect to the selection of a tax rate, it is critical to use the marginal rate in calculating after-tax operating income in perpetuity. Otherwise, the implicit assumption is that taxes can be deferred indefinitely. True or False
Q:
Federal Reserve independence is thought to
A) introduce a short-term bias to monetary policymaking.
B) lead to better fiscal and monetary policy coordination.
C) introduce longer-run considerations to monetary policymaking.
D) do both A and B of the above.
Q:
The effective tax rate is calculated from actual taxes paid based on accounting statements prepared for tax reporting purposes. True or False
Q:
Factors that provide the Federal Reserve with a high degree of independence include
A) 14-year terms for members of the Board of Governors.
B) a four-year term for the chairman of the Board of Governors that is not coincident with the president's term of office.
C) constitutional independence from Congress and the president.
D) all of the above.
E) only A and B of the above.
Q:
When the firm increases its debt in direct proportion to the market value of its equity, the level of the debt is perfectly correlated with the firms market value. Consequently, the risk associated with the tax shield (resulting from interest paid on outstanding debt) is the same as that associated with the firm. True or False
Q:
The power within the Federal Reserve was effectively transferred to the Board of Governors by
A) the banking legislation of the Great Depression.
B) Supreme Court decisions in the 1950s.
C) the Depository Institutions Deregulation and Monetary Control Act of 1980.
D) the Treasury-Federal Reserve Accord of 1951.
Q:
The reduction in the firms tax liability due to the tax deductibility of interest is often referred as a tax shield. True or False
Q:
The designers of the Federal Reserve Act meant to create a central bank characterized by its
A) system of checks and balances and decentralization of power.
B) strong concentration of power in the hands of a few people.
C) inability to function as a lender of last resort.
D) responsiveness to the electorate.
Q:
The relationship between the overall market and a specific firms beta may change significantly if a large sector of stocks that make up the overall index increase or decrease substantially. True or False
Q:
Which of the following are true statements?
A) The FOMC usually meets every six weeks to set monetary policy.
B) The FOMC issues directives to the trading desk at the New York Fed.
C) Designers of the Federal Reserve Act did not envision the use of discount lending as a monetary policy tool.
D) All of the above are true statements.
E) Only A and B of the above are true statements.
Q:
The weighted average cost of capital (WACC) is the broadest measure of the firms cost of funds and represents the return that a firm must earn to induce investors to buy its common stock. True or False
Q:
The Federal Reserve entity that determines monetary policy strategy is the
A) Board of Governors.
B) Federal Open Market Committee.
C) Chairman of the Board of Governors.
D) Shadow Open Market Committee.
Q:
Preferred dividends are tax deductible to U.S. corporations. True or False
Q:
The Federal Open Market Committee consists of
A) the five senior members of the seven-member Board of Governors.
B) the seven members of the Board of Governors and seven presidents of the regional Fed banks.
C) the seven members of the Board of Governors and five presidents of the regional Fed banks.
D) the twelve regional Fed bank presidents and the chairman of the Board of Governors.
Q:
For non-rated firms, the analyst may estimate the pretax cost of debt for an individual firm by comparing debt-to-equity or total capital ratios, interest coverage ratios, and operating margins with those of similar rated firms. True or False
Q:
Which of the following are true statements?
A) The FOMC usually meets every six weeks to set monetary policy.
B) The FOMC issues directives to the trading desk at the New York Fed.
C) Designers of the Federal Reserve Act did not envision the use of open market operations as a monetary policy tool.
D) All of the above are true statements.
E) Only A and B of the above are true statements.
Q:
A firms credit rating is a poor measure of a firms default risk. True or False
Q:
Assume a firm has a market value of less than $50 million and a b of 1.75. Also, assume the risk-free rates of return and equity premium are 5.0 and 5.5 percent, respectively. The firms cost of equity using the CAPM method adjusted for firm size is 23.8%. True or False
Q:
Although the Federal Open Market Committee does not have formal authority to set ________ and the ________, it does possess the authority in practice.
A) margin requirements; discount rate
B) margin requirements; federal funds rate
C) reserve requirements; discount rate
D) reserve requirements; federal funds rate
Q:
For firms whose market value is less than $50 million, the adjustment to the CAPM in estimating the cost of equity can be as large as 2 percentage points. True or False
Q:
Although neither ________ nor the ________ is officially set by the Federal Open Market Committee, decisions concerning these policy tools are effectively made by the committee.
A) margin requirements; discount rate
B) margin requirements; federal funds rate
C) reserve requirements; discount rate
D) reserve requirements; federal funds rate
Q:
The Board of Governors
A) establishes, within limits, reserve requirements.
B) effectively sets the discount rate.
C) sets margin requirements.
D) does all of the above.
E) does only A and B of the above.
Q:
Studies show that the market risk premium is unstable, lower during periods of prosperity and higher during periods of economic slowdowns. True or False
Q:
Each member of the seven-member Board of Governors is appointed by the president and confirmed by the Senate to serve
A) 4-year terms.
B) 6-year terms.
C) 14-year terms.
D) as long as the appointing president remains in office.
Q:
Betas do not vary over time and are quite insensitive to the time period and methodology employed in their estimation. True or False
Q:
Members of the Board of Governors are
A) chosen by the Federal Reserve Bank presidents.
B) appointed by the newly elected president of the United States, as are cabinet positions.
C) appointed by the president of the United States and confirmed by the Senate as members resign.
D) never allowed to serve more than seven-year terms.
Q:
The market risk or equity premium refers to the additional rate of return in excess of the weighted average cost of capital that investors require to purchase a firms equity. True or False
Q:
The chairman of the Board of Governors of the Federal Reserve System exercises a high degree of control over the board
A) through his ability to set the agenda of the Board and the FOMC.
B) through his role as spokesperson for the Fed with the President and before Congress.
C) because he can veto decisions made by a majority of the other Board members.
D) because of all of the above.
E) because of only A and B of the above.
Q:
A three-month Treasury bill rate is not free of risk for a five- or ten-year period, since interest and principal received at maturity must be reinvested at three month intervals. True or False
Q:
Which of the following are not duties of the Board of Governors of the Federal Reserve System?
A) Setting margin requirements, the fraction of the purchase price of securities that has to be paid for with cash.
B) Setting the maximum interest rates payable on certain types of time deposits under Regulation Q.
C) Approving the discount rate "established" by the Federal Reserve banks.
D) Representing the United States in negotiations with foreign governments on economic matters.
Q:
Whether an analyst should use a short or long-term interest rate for the risk free rate in calculating the CAPM depends on when the investor receives their future cash flows. True or False
Q:
Which of the following are duties of the Board of Governors of the Federal Reserve System?
A) Setting margin requirements, the fraction of the purchase price of securities that has to be paid for with cash.
B) Setting the maximum interest rates payable on certain types of time deposits under Regulation Q.
C) Regulating credit with the approval of the President under the Credit Control Act of 1969.
D) None of the above has been a duty of the Board since the mid-1980s.
Q:
The Fed's support of the Depository Institutions Deregulation and Monetary Control Act of 1980 stemmed in part from its
A) concern over declining Fed membership.
B) belief that all banking regulations should be eliminated.
C) belief that interest rate ceilings were too low.
D) belief that depositors had to become more knowledgeable about banking operations.
Q:
For a return to be considered risk-free over some future time period it must be free of default risk and there must not be any uncertainty about the reinvestment rate (i.e., the rate of return that can be earned at the end of the investors holding period).
True or False
Q:
The cost of equity can also be viewed as an opportunity cost. True or False
Q:
Banks subject to reserve requirements set by the Federal Reserve System include
A) only state-chartered banks.
B) only nationally chartered banks.
C) only banks with less than $100 million in assets.
D) only banks with less than $500 million in assets.
E) all banks whether or not they are members of the Federal Reserve System.
Q:
Investors require a minimum rate of return on an investment to compensate them for the level of perceived risk associated with that investment. True or False
Q:
Of all commercial banks, about ________ percent belong to the Federal Reserve System.
A) 15
B) 20
C) 30
D) 50
Q:
Which of the following banks are required to be members of the Federal Reserve System?
A) state-chartered banks
B) insured banks
C) banks having over $500 million in assets
D) none of the above
Q:
Discounted cash flow and the asset-oriented valuation methods necessarily provide identical results. True or False
Q:
All ________ are required to be members of the Fed.
A) state-chartered banks
B) nationally chartered banks
C) banks with more than $100 million in assets
D) banks with more than $500 million in assets
Q:
The constant growth model may be used to estimate the risk premium component of the cost of equity as an alternative to relying on historical information as is done in the capital asset pricing model. True or False
Q:
Member commercial banks have purchased stock in their district Fed banks; the dividend paid by that stock is limited to
A) four percent annually.
B) five percent annually.
C) six percent annually.
D) eight percent annually.
Q:
The projected cash flow of firms in highly cyclical industries can be distorted depending on where the firm is in the business cycle. True or False
Q:
The ________ Fed bank, with about 25 percent of the system's assets, is the most important of the Federal Reserve banks.
A) Chicago
B) Los Angeles
C) Miami
D) New York
E) Washington, D.C.
Q:
When cash flow is temporarily depressed due to strikes, litigation, warranty claims, or other one-time events, it is generally safe to assume that cash flow will recover in the near term. True or False
Q:
Each Fed bank president attends FOMC meetings; although only ________ Fed bank presidents vote on policy, all ________ provide input.
A) three; ten
B) five; ten
C) three; twelve
D) five; twelve
Q:
Intuition suggests that the length of the high-growth period when applying the variable growth model should be shorter the greater the current growth rate of the firms cash flow. True or False
Q:
Which Federal Reserve Bank president always has a vote in the Federal Open Market Committee?
A) Philadelphia
B) New York
C) Boston
D) San Francisco