Question No: 6 ( M a r k s: 1 ) http://vuzs.net
Which of the following firms would have the highest financial leverage?
► A firm having debt-to-equity ratio of 30:70
► A firm having debt-to-equity ratio of 40:60
► A firm having debt-to-equity ratio of 50:50
► A firm having debt-to-equity ratio of 60:40
Ref:
In above McQ Debt = 60 and Equity = 40
Financial Leverage
The amount of debt in capital structure of a firm is known as financial leverage. In other words, how a firm utilizes the amount of debt. The more debt in capital structure, there is greater financial leverage.
The debt-to-equity ratio is total debt divided by total equity:
Debt-to-Equity Ratio = Total Debt/Total Equity
Question No: 7 ( M a r k s: 1 ) http://vuzs.net
In which of the following dividend policies, the amount of dividend is relatively fixed?
► Constant payout ratio policy
► Hybrid dividend policy
► Residual dividend policy
► Stable dividend policy
Ref:
A constant payout ratio policy is a policy of paying a FIXED percentage of a firm’s earnings as dividends in each period. Such a policy is likely to result in wildly fluctuating dividends. As a result, only a small percentage of dividend paying firms follow such a policy
Question No: 8 ( M a r k s: 1 ) http://vuzs.net
Which of the following serves as a starting point for preparing functional budgets of a firm?
► Sales budget
► Master budget
► Production cost budget
► Cash budget
Ref:
The master budget has two major parts including the operating budget and the financial budget (See Exhibit 9-4). The operating budget begins with the sales budget and ends with the budgeted income statement. The financial budget includes the capital budget as well as a cash budget, and a budgeted balance sheet
Question No: 9 ( M a r k s: 1 ) http://vuzs.net
A company is holding cash as a buffer in case of an unexpected need with operations. This is an example of the ________ motive for holding cash.
► Precautionary
► Speculative
► Transactions
► Capital needs
Ref: PAGE # 94
Motives for Cash holding
Transactions Motive ensures that the firm has enough funds to transact its routine, day-to-day business affairs. Safety Motive protects the firm against being unable to meet unexpected demands for cash. Speculative Motive allows the firm to take advantage of unexpected opportunities that may arise
Note:
Precautionary = Safety Motive
OR
Three Motives for Holding Cash
In his publication on The General Theory of Employment, Interest, & Money, Keynes outlined three reasons, or motives, for holding money or cash:
Transaction Motive - cash is held to pay for goods or services. It is useful for conducting our everyday transactions or purchases.
Precautionary Motive - cash is a relatively safe investment. Cash investments rarely lose value (as can stocks or bonds) and are therefore held for safety reasons in a balanced portfolio.
Asset or Speculative Motive - cash investments provide a return to their holders.
OR
Below reference is provided by IJAZ
Question No: 10 ( M a r k s: 1 ) http://vuzs.net
Which of the following is an "income based method" for share valuation of a target firm?
► Replacement cost method
► Break up value method
► Dividend valuation method
► Accumulated depreciation method
Ref: PAGE #115
We may employ following valuation methods for unquoted shares. We divide them into two Broad categories:
Income based approach:
- Present value method
- Dividend valuation
- P/E ratio
Question No: 11 ( M a r k s: 1 ) http://vuzs.net
Which of the following is a re-structuring strategy in which employees buy a majority share in their own firm?
► Employee Dividend Scheme
► Employee Buyout
► Employee Empowerment
► Leverage Buyout
Ref: PAGE # 124
Employee Buyout – EBO
A restructuring strategy in which employees buy a majority stake in their own firms. This form of buyout is often done by firms looking for an alternative to a leveraged buyout. Companies being sold can be either healthy companies or ones that are in significant financial distress.
Question No: 12 ( M a r k s: 1 ) http://vuzs.net
All of the following could be the reasons for a subsidiary buyout EXCEPT:
► The parent company is in financial distress
► The parent company needs cash
► The parent company prefers to sell the firm rather that liquidation
► The parent company wants liquidation
Ref: PAGE # 124
The existing parent company of the victim firm may wish to dispose of it. The parent company may be caught up in financial distress and is in acute need of cash and liquidity. The subsidiary on the other hand, is not strategically fit with parent’s overall business strategy.
Question No: 13 ( M a r k s: 1 ) http://vuzs.net
A firm has to pay $10,000 to an American company after three months. The firm enters into a contract with a foreign exchange dealer to buy $10,000 after three months at Rs.61/US$. This contract would be beneficial for the firm if:
► After three months the exchange rate is Rs.60/US$
► After three months the exchange rate is Rs.61/US$
► After three months the exchange rate is Rs.62/US$
► After three months the exchange rate is Rs.59/US$
Ref:
Explanation
A company enters into a contract to buy x dollars after 3 months at an exchange rate of Rs 61/ US $ decided now. At the maturity date both parties have to honor their respective commitments of buying and selling of US $ at agreed rates.
Now if on the maturity date,
the spot ex rate is Rs 62/US $, (PKR weakened against US $), then the company has actually eliminated the loss and benefited financially.
However, if the spot rate on maturity date is Rs. 60/US $, (contrary to its estimation of weak local currency, local currency strengthened) then the company has missed the opportunity to benefit from this favorable sport rate.
Question No: 14 ( M a r k s: 1 ) http://vuzs.net
A firm can fix effective interest rate on short-term borrowings by doing which of the following?
► Buying a forward rate agreement
► Selling a forward rate agreement
► Borrowing local currency
► Borrowing base currency
Ref: PAGE # 137
Forward rate agreement(FRA)
FRA offer companies the facility to fix future interest today either on short-term borrowing or deposit for an agreed future period.
An effective interest rate can be fixed on future short-term borrowing by buying an FRA.
Alternatively,
an effective interest rate can be fixed on short-term deposit or investment by selling FRA.
Question No: 15 ( M a r k s: 1 ) http://vuzs.net
A firm can fix effective interest rate on its short-term investment to be made at some future date by doing which of the following?
► Borrowing local currency
► Borrowing base currency
► Selling a forward rate agreement
► Buying an forward rate agreement
Ref: PAGE # 137
Forward rate agreement(FRA)
FRA offer companies the facility to fix future interest today either on short-term borrowing or deposit for an agreed future period.
An effective interest rate can be fixed on future short-term borrowing by buying an FRA.
Alternatively,
an effective interest rate can be fixed on short-term deposit or investment by selling FRA
Question No: 16 ( M a r k s: 1 ) http://vuzs.net
A company may create a hedge through interest rate futures if it intends to make some investment for a short-term at some future date, because of:
► Fall in short-term interest rates
► Fall in short-term deposit rates
► Increase in short-term interest rates
► Increase in short-term deposit rates
Ref: PAGE # 139
The hedge can be created by buying short-term interest future. Future position should be closed when actual deposit period begins by selling the same number of interest rate futures.
If interest rate rise, price will fall, loss will incur.
If interest rate fall, price will rise, profit will be generated.
Question No: 17 ( M a r k s: 1 ) http://vuzs.net
Which one of the following statements is CORRECT regarding Option?
► An option creates an obligation for the holder
► An option creates a right and not the obligation for the holder
► Option seller is the option holder
► Option writer is the option holder
Ref: PAGE # 139
Options:
An option is a contract that confers a right to buy or sell a specific quantity or asset – but not the obligation, at agreed price on or before the specified future date.
Question No: 18 ( M a r k s: 1 ) http://vuzs.net
Which one of the following statements is CORRECT regarding Options Contacts?
► A put option gives the holder a right to sell underlying item at a specified price
► A put option gives its writer the right to sell underlying item at a specified price
► A call option gives its writer a right to sell underlying item
► A call option gives its holder a right to sell underlying item
Ref: PAGE # 139
Features of Options:
· It is a contractual agreement.
· The holder of option exercises his/her right only if it is in his/her favours.
· Option writer is seller and must honor his side of contract. (Sell or buy at agreed price).
· Options like futures are standardized transaction in terms of size & duration.
· Options are Exchange traded
· These agreements are easy to buy & sell
· Options either are call options or put options.
· The option purchase price is called option premium.
· Call option gives its holder a right (not obligation) to buy underlying item at the specified price.
· Put option gives its holder a right (not obligation) to sell underlying item at specified price.
Question No: 19 ( M a r k s: 1 ) http://vuzs.net
Which of the following could be used as a hedging tool against unfavorable movement in interest rate?
► Currency option
► Currency futures
► Interest rate option
► Currency SWAP
Ref: PAGE # 143
Interest Rate Caps and Floor
Firms may borrow from a bank or deposit funds at variable rate of interest connected to some benchmark rate like KIBOR in Pakistan or LIBOR (London Inter Bank Offered Rate) in international money markets. When borrowing on variable interest rates, a firm may want to utilize option as hedging tool against the unfavorable interest rate movements over the full term of loan or deposit
Question No: 20 ( M a r k s: 1 ) http://vuzs.net
The credit policy of a public company is 1/10, net 30. At present 25% of the customers take the discount. What would accounts receivable be if all customers took the cash discount?
► Account receivable would be lower than the present level
► No change from the present level
► Account receivable would be higher than the present level
► Unable to determine without more information
Ref:
Example
term of “1/10, net 30” means that discount of 1% is available only if the payment is received within first ten days of delivering goods otherwise, full invoice value will be payable by the debtor on 30th day. There’s a cost of credit for seller. By availing a discount for early payment the buyer is often not in all position to ignore the cash discount.
Question No: 21 ( M a r k s: 1 ) http://vuzs.net
In the long run, a successful acquisition is one that:
► Enables the acquirer to make an all-equity purchase, thereby avoiding additional financial leverage
► Enables the acquirer to diversify its asset base
► Increases the market price of the acquirer's stock over what it would have been without the acquisition
► Increases the financial leverage of the firm
Ref:
Increased revenue or market share: This assumes that the buyer will be absorbing a major competitor and thus increase its market power (by capturing increased market share) to set prices.
Question No: 22 ( M a r k s: 1 ) http://vuzs.net
The efficiency enhancing effect resulting from a strategic merger is called which of the following?
► Merger effect
► Acquisition effect
► Synergy effect
► Efficiency effect
Ref: Page # 108
Synergy is the magic force that allows for enhanced cost efficiencies of the new business. Synergy takes the form of revenue enhancement and cost savings.
Question No: 23 ( M a r k s: 1 ) http://vuzs.net
How much debt financing is used by a firm whose beta is un-geared?
► 100% debt financed
► 100% equity financed
► 50% equity and 50% debt financed
► 60% equity and 40% debt financed
Ref: PAGE # 66
Example:
We need to un-gear the beta. Why? Note that the beta of the industry in which the proposed project falls has D/E ratio of 40:60 but the new project shall be all equity financed. We un-gear the beta – that means the financial risk element needs to be removed from the geared beta
Question No: 24 ( M a r k s: 1 ) http://vuzs.net
Which of the following is more appropriate to use while comparing investment alternatives with different compounding periods?
► Quoted Interest Rate
► Annual Percentage Rate
► Effective Annual Interest Rate
► Nominal Interest Rate
Ref: Page # 15
Effective Annual Rate – EAR
The Effective Annual Rate (EAR) is the interest rate that is annualized using compound interest. The EAR is the annualized equivalent of interest with shorter compounding periods.
It can be calculated from the following formula:
EAR = (1 + i/n) n - 1
Question No: 25 ( M a r k s: 1 ) http://vuzs.net
An investor would be exposed to which of the following risks, if he may have to sell a bond prior to maturity and interest rates have risen since the bond was purchased?
► The coupon effect risk
► Interest rate risk
► Inflation risk
► Unique risk
Ref: Page # 136
If a company is planning to borrow at variable rate of interest, the interest amount charged each time varying according to whether short-term interest rates have risen or fallen since the previous payment. To quote another example how interest rate fluctuations affect the financials of the company, a company may have invested in bonds and any change in interest rate will affect the value of investment in balance sheet.
Examples of interest rate risk – short term investments, investment in bonds, borrowings in short term – variation in short term interest rate.
Question No: 26 ( M a r k s: 1 ) http://vuzs.net
Which of the following focuses on long-term investment decision-making process?
► Working Capital Management
► Capital Budgeting
► Cash Budgeting
► None of the given options
Ref: PAGE # 24
Capital budgeting:
Capital Budgeting is the planning process used to determine a firm's long term investments such as new machinery, replacement machinery, new plants, new products, and research and development projects. Capital budgeting process is carried out for projects involving heavy initial upfront cost.
Question No: 27 ( M a r k s: 1 ) http://vuzs.net
According to the reinvestment rate assumption, which method of capital budgeting assumes that the cash flows are reinvested at the project's rate of return?
► Payback period
► Net present value
► Internal rate of return
► None of the given options
Ref: PAGE # 27
Net present value (NPV)
There are two aspects of NPV method of project evaluation. First is the initial investment or upfront cost and second, is the benefits (like cash flow) emerging from the project. First aspect is pretty simple. As it is incurred in the current or present time, there are no issues associated with its measurement. On the other side, benefits shall be reaped in future and involves time value of money, making the measurement complex and difficult.
Question No: 28 ( M a r k s: 1 ) http://vuzs.net
Which of the following statements is correct for a project with a positive Net Present Value (NPV)?
► Internal rate of return (IRR) exceeds the cost of capital
► Accepting the project has an indeterminate effect on shareholders
► The discount rate exceeds the cost of capital
► The profitability index equals one
Ref: PAGE # 29
Question No: 29 ( M a r k s: 1 ) http://vuzs.net
While calculating cash flow from operating activities through indirect method, an increase in current assets is __________ whereas an increase in current liabilities is ___________ net income?
► added to; added to
► added to; deducted from
► deducted from; added to
► deducted from; deducted from
Ref: PAGE # 83 Cash flow Performa
OR below image
Question No: 30 ( M a r k s: 1 ) http://vuzs.net
Which of the following holds true regarding aggressive working capital policy?
► High liquidity; high profitability; high risk
► High liquidity; low profitability; low risk
► Low liquidity; low profitability; high risk
► Low liquidity; high profitability; high risk
Ref: PAGE # 89
Question No: 31 ( M a r k s: 1 ) http://vuzs.net
Which of the following holds TRUE regarding conservative working capital policy?
► High liquidity; high profitability; high risk
► High liquidity; low profitability; low risk
► Low liquidity; low profitability; high risk
► Low liquidity; high profitability; high risk
Ref: PAGE # 89
Question No: 32 ( M a r k s: 1 ) http://vuzs.net
“The firm has very little net working capital sometimes even negative net working capital that can be very risky.”
The above statement belongs to:
► Aggressive working capital policy
► Conservative working capital policy
► Moderate working capital policy
► The statement is not related to any of the working capital policies
Ref: PAGE # 88
AGGRESSIVE WORKING CAPITAL POLICY;
– Low level of investment
– More short-term financing is used to finance current assets.
– Support low level of production & sales
– Borrowing short-term is considered more risky than borrowing long-term.
– Firm risk increases, due to the risk of fluctuating interest rates, but the potential for higher
Returns increases because of the generally low-cost financing.
– This approach involves the use of short-term debt to finance at least the firm’s temporary
assets, some or all of its permanent current assets, and possibly some of its long-term fixed
assets. (Heavy reliance on short term debt)
– The firm has very little net working capital. It is more risky.
– May be a negative net working capital. It is very risky
Question No: 33 ( M a r k s: 1 ) http://vuzs.net
“The firm has a reasonable amount of net working capital that leads to a low-risk position”.
The above statement belongs to:
► Aggressive working capital policy
► Conservative working capital policy
► Moderate working capital policy
► The statement is not related to any of the working capital policies
Ref: PAGE # 88
CONSERVATIVE WORKING CAPITAL POLICY;
– High level of investment in current assets
– support any level of sales and production
– High liquidity level
– Avoid short-term financing to reduce risk, but decreases the potential for maximum value
Creation because of the high cost of long-term debt and equity financing.
– Borrowing long-term is considered less risky than borrowing short-term.
– This approach involves the use of long-term debt and equity to finance all long-term fixed
Assets and permanent assets, in addition to some part of temporary current assets.
– The firm has a large amount of net working capital. It is a relatively low-risk position.
– The safety of conservative approach has a cost.
– Long-term financing is generally more expensive than short-term financing.
Question No: 34 ( M a r k s: 1 ) http://vuzs.net
Financial data for three firms is presented below. Each differs only with respect to philosophy on an aggressive vs. a conservative approach to current asset management.
FIRM A FIRM B FIRM C
Sales Rs.2,000,000 Rs.2,000,000 Rs.2,000,000
EBIT 200,000 200,000 200,000
Current Assets 600,000 500,000 400,000
Fixed Assets 500,000 500,000 500,000
Total Assets 1,100,000 1,000,000 900,000
What will be the rate for the firm with the most aggressive philosophy?
► 18.2 percent
► 33.3 percent
► 25.5 percent
► 22.2 percent
Question No: 35 ( M a r k s: 1 ) http://vuzs.net
Which of the following is equal to Stock out cost?
► Carrying cost Safety stock
► Holding cost Carrying cost
► Reordering cost Safety stock
► Carrying cost Reordering cost
Ref: PAGE # 100
Doubt in answer for further confirmation see PAGE#100
Question No: 36 ( M a r k s: 1 ) http://vuzs.net
Which of the following statement is INCORRECT regarding Just-In-Time (JIT)?
► The inventories are kept near zero level.
► The inventory is acquired in such quantity on daily basis that can support the daily production level.
► The entire inventory acquired move to the production hall.
► Inventory level is necessarily kept at zero level.
Ref: PAGE # 100
Just In Time (JIT):
The idea explains that inventories are kept near zero level. This means that inventory is acquired in such
quantity on daily basis that can support the daily production level. Therefore, there’s no inventory lying in
store room rather all the inventory acquired move to production hall.
The philosophy is to pull inventory through the production processes on as “as-needed” basis rather than
pushing inventory through the processes on an “as-produces basis”. This requires extreme accurate
estimates and there no chance of an error. For example, there’s a high probability of running out of stock
and that could be disastrous.
JIT does not necessarily mean zero inventory level. The objective is to minimize the inventories but to
increase the productivity, quality and flexibility.
Question No: 37 ( M a r k s: 1 ) http://vuzs.net
Which of the following type of mergers occurs when one firm purchases other firms that produce similar or competing products?
► Horizontal
► Vertical
► Financial
► Conglomerate
Ref: PAGE # 109
Horizontal merger:
Two companies that are in direct competition and share the same product lines and markets.
Question No: 38 ( M a r k s: 1 ) http://vuzs.net
Which of the following valuation approach allows for specific and direct estimation of future benefits to the owners, which is consistent with the theory of value?
► Asset-based method
► Income-based method
► Hybrid method
► None of the given options
Ref: PAGE # 119
Hybrid Methods
The income and asset-based approaches to valuation have relative strengths as well as obvious limitations.
example,
the income approach allows for specific and direct estimation of future benefits to the owners, which is consistent with the theory of value.
Question No: 39 ( M a r k s: 1 ) http://vuzs.net
The experts hired in evaluation stage of a public take over process DO NOT include which of the following?
► Legal consultants
► Accountants
► Shareholders
► Stock Brokers
Ref: PAGE # 119
Acquisition Procedures: • Procedure for public takes over:
• Growth / expansion is decided
• Predator company appoints experts – legal consultants, banks, accountants and stock brokers
• Decision regarding contact with target firm – approach before the bid or hostile takeover
• Purchase of certain % age of shares of target
• Establish an offer and communicate target
Includes offer document, offer validity, predator may revise offer if declined by target
• Acquisition of private company:
• Limited consultancy services from expert are required. internal evaluation is normally enough.
• Detailed investigation is conducted before the transaction.
• Offer price is negotiated by both parties
• Finalization of deal by entering into a contract
• Payment of price finishes the deal.
Question No: 40 ( M a r k s: 1 ) http://vuzs.net
In which of the following forms of acquisition, a company's existing managers acquire a large part or all of the company?
► Management Buyout
► Management Buy-In
► Leverage Buyout
► None of the given options
Ref: PAGE # 123
Management Buyouts
Management buyouts are similar in all major legal aspects to any other acquisition of a company. The particular nature of the MBO lies in the position of the buyers as managers of the company and the practical consequences that follow from that. In particular, the due diligence process is likely to be limited as
the buyers already have full knowledge of the company available to them. The seller is also unlikely to give any but the most basic warranties to the management, on the basis that the management knows more about the company than the sellers do and therefore the sellers should not have to warrant the state of the company. In many cases, the company will already be a private company, but if it is public then the management will take it private.
Question No: 41 ( M a r k s: 1 ) http://vuzs.net
Recession in economy is related to which of the following levels of financial distress of a firm?
► Firm Level
► Industry Level
► Macro-Level
► All of the given options
Ref: PAGE # 127
We can divide the sources of financial distress into three categories:
a- Firm level causes of financial distress
b- Industry level causes
c- Macro level factors causing financial distress
Question No: 42 ( M a r k s: 1 ) http://vuzs.net
Which of the following would be the outcome if the fixed rate in the forward rate agreement (FRA) is lower than the reference rate?
► The seller of the FRA makes a cash payment to the buyer.
► Both buyer and seller make payments to each other.
► The buyer of the FRA makes a cash payment to the seller.
► Neither buyer nor seller makes any payment to each other.
Ref: PAGE # 137
Decision Rule:
When a FRA reaches its maturity – the settlement date, both the seller and buyer must settle the contract. If the fixed rate in the agreement is higher than the reference rate (may be KIBOR), the buyer of the FRA makes a cash payment to the seller. The payment is for the amount by which the FRA rate exceeds the
reference rate. If the fixed rate in the agreement is lower than the reference rate, the seller of the FRA makes a cash payment to buyer – exactly the reverse of above. The payment is for the amount by which the FRA rate is less than the reference rate.
Question No: 43 ( M a r k s: 1 ) http://vuzs.net
If the strike price and current market price are equal, an option would be termed as:
► In the money
► Out of money
► At the money
► None of the given options
Ref: PAGE # 139
Options pricing:
The strike price may be higher, lower or equal to the current market price of underlying item.
For example,
a call option gives the right to its holder to buy x number of shares of y company at Rs 10 per share and the current price could be greater than Rs. 10/-, less than Rs. 10/- or exactly Rs 10/- per share. If the strike price is more favorable than the current market price of underlying asset or item, the option is termed as “in-the-money.” If the strike price is not favorable than the current market price of underlying asset or item, the option is called “out-of-money.” If the strike price and current market price are equal, then it is known as “at-the-money.”
Question No: 44 ( M a r k s: 1 ) http://vuzs.net
Which of the following theories states that exchange rates between currencies are in equilibrium when their purchasing power is the same in each of the two countries?
► M&M theory
► Purchasing Power Parity theory
► Fisher effect theory
► Interest rate risk theory
Ref: PAGE # 145
Purchasing Power Parity Theory:
Purchasing power parity (PPP) is a theory, which states that exchange rates between currencies are in equilibrium when their purchasing power is the same in each of the two countries. This means that the exchange rate between two countries should equal the ratio of the two countries' price level of a fixed basket of goods and services. When a country's domestic price level is increasing (i.e., a country experiences inflation), that country's exchange rate must depreciated in order to return to PPP.
Question No: 45 ( M a r k s: 3 )
How firms analyze their credit policies? Explain briefly.
Question No: 46 ( M a r k s: 5 )
How Economic Order Quantity (EOQ) Model is helpful in the reduction of total inventory costs?
Question No: 47 ( M a r k s: 5 )
Differentiate between Spot Rates and Forward Rates of currencies. Why forward rates are higher than spot rates?
Question No: 48 ( M a r k s: 5 )
How a firm can create a money market hedge against transaction exposure, when the firm has to make a payment at some future date?
Answer: .
Question No: 49 ( M a r k s: 10 )
A Firm sales 200,000 units per year of a particular Product, order size is for 5000 units and stock out is 3000 units. The stock out probability acceptance level is set to 5% and per unit stock out cost is Rs.7/-. Holding cost is estimated at Rs.3/- per unit. Being an inventory manager, determine stock out cost and amount of safety stock to be kept in hand.
Question No: 50 ( M a r k s: 10 )
Why firms do business internationally? Explain in detail.
