BFM 113 FINANCIAL MANAGEMENT I

PRELIMINARY EXAMINATION REVIEWER

SCHOOL YEAR 2017 2018

Coverage:
Introduction to Financial Management
Financial Statement Analysis
Cash Flow Analysis

1. Which of the following statements is CORRECT?

a. Borrowing by using short-term notes payable and then using the proceeds to retire
long-term debt is an example of window dressing. Offering discounts to customers
who pay with cash rather than buy on credit and then using the funds that come in
quicker to purchase additional inventories is another example of window dressing.
b. Borrowing on a long-term basis and using the proceeds to retire short-term debt would
improve the current ratio and thus could be considered to be an example of "window
dressing."
c. Offering discounts to customers who pay with cash rather than buy on credit and then
using the funds that come in quicker to purchase fixed assets is an example of window
dressing.
d. Using some of the firms cash to reduce long-term debt is an example of window
dressing.
e. Window dressing is any action that does not improve a firms fundamental long-run
position and thus increases its intrinsic value.

2. Which of the basic financial statements is best used to answer the questions "What does the
company own and how is it financed?"
a. Balance sheet
b. Statement of shareholder's equity
c. Income statement
d. Cash flow statement

3. The area of finance that deals with long-term investment decisions is known as
a. capital structure.
b. working capital management.
c. financial strategy.
d. capital budgeting.

4. The change between a firm's beginning cash balance and ending cash balance would equal
 a. cash flow from operations + cash flow from investing activities + cash flow from financing
activities.
b. the change in current assets minus the change in current liabilities.
c. net income plus new borrowing minus asset purchases.
d. total assets minus total liabilities minus total stockholders' equity.

4. Which of the following streams of income is not affected by how a firm is financed (whether
with debt or equity)?
a. Net profit after tax but before dividends
b. Net working capital
c. Operating income
d. Income before tax

4. Which of the following forms of organization blends elements of partnerships and

corporations?
a. D.B.A.'s
b. Sole proprietorships
c. Limited liability companies (LLC's)
d. General partnership

5. The major sources of financing for corporations are

a. partners contributions.
b. exchanges between shareholders.
c. interest and dividends.
d. debt and equity

6. Maximization of shareholder wealth as a goal is superior to accounting profit maximization

because
a. it considers the time value of the money.
b. following the shareholder wealth maximization goal will ensure high stock prices.
c. accounting profits are not the same as cash flows.
d. A and C.

7. The ratio of ________ to ________ is an indicator of the quality of a firm's earnings.

a. cash flow from operations, net income
 b. liabilities, assets
c. dividends, interest expense
d. cash flow from operations, capital expenditures

8. What does the agency problem refer to?

a. The conflict that exists between the board of directors and the employees of the firm.
b. The problem associated with financial managers and Internal Revenue agents.
c. The conflict that exists between stockbrokers and investors.
d. The problem that results from potential conflicts of interest between the manager of a
business and the stockholders.

9. Managers of corporations need to act in an ethical manner

a. because ethics violations will be punished by the law.
b. because a business must be trusted by investors, customer and the public if it is to
succeed.
c. because business managers must answer to a higher authority.
d. because ethical behavior is its own justification.

10. A firm wants to strengthen its financial position. Which of the following actions would
INCREASE its quick ratio?
a. Offer price reductions along with generous credit terms that would (1) enable the firm
to sell some of its excess inventory and (2) lead to an increase in accounts
receivable.
b. Issue new common stock and use the proceeds to increase inventories.
c. Speed up the collection of receivables and use the cash generated to increase
inventories.
d. Use some of its cash to purchase additional inventories.
e. Issue new common stock and use the proceeds to acquire additional fixed assets.

11. Consider the following equally likely project outcomes:

Profit
X Y
Pessimistic prediction $ 0 $500
Expected outcome $ 500 $500
Optimistic prediction $1000 $500
 a. Investors will prefer project X because it potentially offers a higher profit.
b. Investors will reject both projects because the profit is too low.
c. Investors will prefer project Y because the expected return is the same as for project X
but the outcome is certain.
d. Since Projects X and Y have the same expected outcomes of $500, investors will view
them as identical in value.

12. Which of the following is most likely to motivate executives to maximize shareholder wealth?
a. Tying bonuses to cost reductions and meeting budget goals
b. Offering them relatively high salaries
c. Tying annual bonuses to increases in annual profits
d. Compensating them with stock options that can only be exercised after five years

13. Foregoing the earning potential of a dollar today is referred to as the

a. time value of money.
b. opportunity cost concept.
c. risk/return tradeoff.
d. creation of wealth.

14. In measuring value, the focus should be on

a. cash flow.
b. accounting profits.
c. time value of money.
d. earnings per share.

15. Which of the following is a characteristic of an efficient market?

a. Small number of individuals
b. Opportunities exist for investors to profit from publicly available information.
c. Security prices reflect fair value of the firm.
d. Immediate response occurs for new public information.

16. Which of the following factors is most important in investment decisions?

a. The change in earnings before taxes.
b. The change in gross sales revenue.
 c. The change in net income.
d. The change in after-tax cash flow.

17. The price of Netflix stock dropped sharply after customers responded negatively to a change
in pricing policies. The change in stock price illustrates which principle?
a. Market prices reflect information.
b. Individuals respond to incentives.
c. Cash flows are the source of value.
d. The time-value of money.

18. Which of the following statements is most correct?

a. Compensating managers with stock can reduce the agency problem between
stockholders and managers.
b. Restrictions are included in credit agreements to protect bondholders from the agency
problem that exists between bondholders and stockholders.
c. The threat of a takeover can reduce the agency problem between bondholders and
stockholders.
d. Statements a and b are correct.
e. All of the statements above are correct.

19. Which of the following work to reduce agency conflicts between stockholders and
bondholders?
a. Including restrictive covenants in the companys bond contract.
b. Providing managers with a large number of stock options.
c. The passage of laws that make it easier for companies to resist hostile takeovers.
d. Statements b and c are correct.
e. All of the statements above are correct.

20. Defensor Technologies is considering issuing new common stock and using the proceeds to
reduce its outstanding debt. The stock issue would have no effect on total assets, the
interest rate Defensor pays, EBIT, or the tax rate. Which of the following is likely to occur if
the company goes ahead with the stock issue?
a. The ROA will decline.
b. Taxable income will decline.
c. The tax bill will increase.
 d. Net income will decrease.
e. The times-interest-earned ratio will decrease.

21. Which of the following actions are likely to reduce the agency problem between stockholders
and managers?
a. Congress passes a law that severely restricts hostile takeovers.
b. A manager receives a lower salary but receives additional shares of the companys
stock.
c. The board of directors has become more vigilant in its oversight of the companys
management.
d. Statements b and c are correct.
e. All of the statements above are correct.

22. Which of the following is likely to encourage a firms managers to make decisions that are in
the best interest of shareholders?
a. Executive compensation comes primarily in the form of stock options.
b. The state legislature recently passed a law that makes it more difficult to successfully
complete a hostile takeover.
c. Institutional investors such as mutual funds and pension funds hold large amounts of the
firms stock.
d. Statements a and b are correct.
e. Statements a and c are correct.

23. Which of the following statements is most correct?

a. One advantage of organizing your business as a corporation is that your shareholders
are not subject to limited liability.
b. Restrictive covenants in debt agreements are an effective way to reduce agency
conflicts between stockholders and managers.
c. Managers generally welcome hostile takeovers since they often increase the companys
stock price.
d. Statements a and b are correct.
e. None of the answers above is correct.

24. Which of the following statements is most correct?

a. Since they are guaranteed a certain set of cash flows, corporate bondholders generally
want corporate managers to select high risk/high return projects.
 b. One advantage of forming a corporation is that you can deduct your corporate taxes,
and thereby eliminate the double taxation that you would face as a sole proprietor.
c. One drawback of forming a corporation is that you lose the limited liability that you would
otherwise receive as a sole proprietor.
d. All of the statements above are correct.
e. None of the statements above is correct.

25. Which of the following statements is most correct?

a. The ability of firms to engage in socially beneficial projects that involve voluntary costs is
constrained by competition and the need of firms to attract capital at low cost.
b. The actions that maximize a firms stock price are inconsistent with maximizing social
welfare.
c. The concepts of social responsibility and ethical responsibility on the part of corporations
are completely different and neither is relevant in maximizing stock price.
d. In a competitive market, if a group of firms do not spend resources making social welfare
improvements, but another group does, in general, this will not affect the second groups
ability to attract capital.
e. If government did not mandate socially responsible corporate actions, such as those
relating to product safety and fair hiring practices, most firms in competitive markets
would still pursue such policies voluntarily.

26. When a company pays a dividend on common stock, it appears as

a. an expense on the income statement.
b. a reduction in the amount of retained earnings.
c. a current liability on the balance sheet.
d. dividend payments have no effect on the financial statements.

26. Information from Dimas Alang Company's balance sheet is as follows:

Current assets:
Cash P 1,200,000
Marketable securities 3,750,000
Accounts receivable 28,800,000
Inventories 33,150,000
Prepaid expenses 600,000
Total current assets P 67,500,000
Current liabilities:
Notes payable P 750,000
Accounts payable 9,750,000
 Accrued expenses 6,250,000
Income taxes payable 250,000
Payments due within one year on long-term debt 1,750,000
Total current liabilities 18,750,000

What is Dimas Alangs current ratio?

a. 0.26 to 1
b. 0.30 to 1
c. 1.80 to 1
d. 3.60 to 1

27. Taga-Ilog Corporation's books disclosed the following information for the year ended
December 31, 2002:

Net credit sales P1,500,000

Net cash sales 240,000
Accounts receivable at beginning of year 200,000
Accounts receivable at end of year 400,000

Taga-Ilog accounts receivable turnover is

a. 3.75 times.
b. 4.35 times.
c. 5.00 times.
d. 5.80 times.

28. Selected information from the accounting records of Luna Company is as follows:

Net sales for 2002 P900,000

Cost of goods sold for 2002 600,000
Inventory at December 31, 2001 180,000
Inventory at December 31, 2002 156,000

Lunas inventory turnover for 2002 is

a. 5.36 times.
b. 3.85 times.
c. 3.67 times.
d. 3.57 times.

D
29. Selected information from the accounting records of the Vassar Company is as follows:
Net accounts receivable at December 31, 2001 P 900,000
Net accounts receivable at December 31, 2002 1,000,000
Accounts receivable turnover 5 to 1
Inventories at December 31, 2001 P1,100,000
Inventories at December 31, 2002 1,200,000
Inventory turnover 4 to 1

What was Vassar's gross margin for 2002?

a. P150,000
b. P200,000
c. P400,000
d. P500,000

30. The following data were abstracted from the records of Elliot Corporation for the year:

Sales $1,800,000
Bond interest expense 60,000
Income taxes 300,000
Net income 400,000

How many times was bond interest earned?

a. 7.67
b. 11.67
c. 12.67
d. 13.67

27. X-1 Corp's total assets at the end of last year were $380,000 and its EBIT was 52,500.
What was its basic earning power (BEP) ratio?
a. 11.88%
b. 11.19%
c. 16.44%
d. 16.16%
e. 13.82%

````ANS: E
Total assets $380,000
EBIT $52,500
BEP = EBIT / Assets = 13.82%
31. Selected information from the accounting records of Rhaegar Manufacturing Company
follows:

Net sales $ 3,600,000

Cost of goods sold 2,400,000
Inventories at January 1 672,000
Inventories at December 31 576,000

What is the number of days' sales in average inventories for the year?
a. 102.2
b. 94.9
c. 87.6
d. 68.1

28. Zero Corp's total common equity at the end of last year was $430,000 and its net income
was $70,000. What was its ROE?
a. 14.98%
b. 16.28%
c. 12.70%
d. 15.79%
e. 12.21%

ANS: B
Common equity $430,000
Net income $70,000
ROE = NI/Equity = 16.28%

32. Selected financial data of Alexander Corporation for the year ended December 31, 2002, is
presented below:
Operating income $900,000
Interest expense (100,000)
Income before income tax $800,000
Income tax expense (320,000)
Net income $480,000
Preferred stock dividends (200,000)
Net income available to common stockholders $280,000

Common stock dividends were $120,000. The times-interest-earned ratio is

a. 2.8 to 1.
 b. 4.8 to 1.
c. 6.0 to 1.
d. 9.0 to 1.

33. On December 31, 2001 and 2002, Taft Corporation had 100,000 shares of common stock
and 50,000 shares of noncumulative and nonconvertible preferred stock issued and
outstanding. Additional information:

Stockholders' equity at 12/31/2002 $4,500,000

Net income year ended 12/31/2002 1,200,000
Dividends on preferred stock year ended 12/31/2002 300,000
Market price per share of common stock at 12/31/2002 144

The price-earnings ratio on common stock at December 31, 2002, was

a. 10 to 1.
b. 12 to 1.
c. 14 to 1.
d. 16 to 1.

34. Which of the following is not an objective of cash flow statements?

a. to provide information to enable assessment of the ability of the entity to generate
future cash flows
b. to provide information to enable assessment of the ability of the entity to pay
dividends and meet financial obligations
c. to provide information to enable assessment of the ability of the entity to generate
long term profitability
d. to provide information to enable assessment of the ability of the entity to finance
changes in the nature and scope of activities

35. Which of the following statements is CORRECT?

a. The more depreciation a firm reports, the higher its tax bill, other things held
constant.
b. People sometimes talk about the firms cash flow, which is shown as the lowest
entry on the income statement, hence it is often called "the bottom line.
c. Depreciation reduces a firms cash balance, so an increase in depreciation would
normally lead to a reduction in the firms cash flow.
d. Operating income is derived from the firm's regular core business. Operating
income is calculated as Revenues less Operating costs. Operating costs do not
 include interest or taxes.
e. Depreciation is not a cash charge, so it does not have an effect on a firms reported
profits.

36. Which of the following factors could explain why Michigan Energy's cash balance increased
even though it had a negative cash flow last year?
a. The company sold a new issue of bonds.
b. The company made a large investment in new plant and equipment.
c. The company paid a large dividend.
d. The company had high depreciation expenses.
e. The company repurchased 20% of its common stock.

37. The most likely situation in which reported earnings are positive, but operations are
consuming rather than generating cash would be:
a. a rapidly growing company.
b. a company reporting large noncash expenses.
c. a company using very conservative accounting standards that lower earnings.
d. a company paying large cash dividends to its shareholders.
A
38. The cash flow statement provides information useful for evaluating the entitys ability to
I generate future cash flows
II pay dividends and meet financial obligations
III generate long term profitability
IV finance changes in the nature and scope of activities
a. I, II, III and IV
b. II, III and IV
c. I, II and III
d. I, II and IV

39. In preparing a statement of cash flows, which of the following transactions would be
considered an investing activity?
a. Sale of a business segment
b. Issuance of bonds payable at a discount
c. Purchase of treasury stock
d. Sale of capital stock
A
40. Which of the following statements is CORRECT?

a. The statement of cash flows reflects cash flows from operations, but it does not
reflect the effects of buying or selling fixed assets.
b. The statement of cash flows shows where the firms cash is located; indeed, it
provides a listing of all banks and brokerage houses where cash is on deposit.
c. The statement of cash flows reflects cash flows from continuing operations, but it
does not reflect the effects of changes in working capital.
d. The statement of cash flows reflects cash flows from operations and from
borrowings, but it does not reflect cash obtained by selling new common stock.
e. The statement of cash flows shows how much the firms cash--the total of
currency, bank deposits, and short-term liquid securities (or cash equivalents)--
increased or decreased during a given year.

41. Last year, Bonifacio Industries had (1) negative cash flow from operations, (2) a negative
free cash flow, and (3) an increase in cash as reported on its balance sheet. Which of the
following factors could explain this situation?

a. The company had a sharp increase in its inventories.

b. The company had a sharp increase in its accrued liabilities.
c. The company sold a new issue of common stock.
d. The company made a large capital investment early in the year.
e. The company had a sharp increase in depreciation expenses.

42. The cash flow statement of Quioquiap Furniture Ltd included the following:
Net cash from operating activities P2,500,000
Net cash used in investing activities (1,500,000)
Net cash from financing activities 900,000
Cash at the end of the period 500,000

How much cash and cash equivalents did Sydney Furniture have at the beginning of the
period?
a. (P4,400,000)
b. P1,400,000
c. P2,400,000
d. (P1,400,000)

D. (P1,400,000) is the correct answer (1,400,000+2,500,000-1,500,000+900,000 =

500,000
43. The following information is provided for the current year:
Profit for the period P2,500,000
Gain on the disposal of plant 300,000
Increase in accounts payable 100,000

There are no other reconciliation items. The cash from operating activities for the period
is

a. P2,900,000
b. P2,700,000
c. P2,300,000
d. P2,100,000

C. P2,300,000 is the correct answer (2,500,000 300,000 + 100,000)

44. Below are the 2007 and 2008 year-end balance sheets for Agoncillo Enterprises:

The firm has never paid a dividend on its common stock, and it issued P2,400,000 of 10-
year, non-callable, long-term debt in 2007. As of the end of 2008, none of the principal on
this debt had been repaid. Assume that the companys sales in 2007 and 2008 were the
same. Which of the following statements must be CORRECT?

Assets: 2008 2007

Cash P 200,000 P 170,000
Accounts receivable 864,000 700,000
Inventories 2,000,000 1,400,000
Total current assets P3,064,000 P2,270,000
Net fixed assets 6,000,000 5,600,000
Total assets P9,064,000 P7,870,000

Liabilities and equity:

Accounts payable P1,400,000 P1,090,000
Notes payable 1,600,000 1,800,000
Total current liabilities P3,000,000 P2,890,000
Long-term debt 2,400,000 2,400,000
Common stock 3,000,000 2,000,000
Retained earnings 664,000 580,000
Total common equity P3,664,000 P2,580,000
Total liabilities and equity P9,064,000 P7,870,000

a. The firm increased its short-term bank debt in 2008.

 b. The firm issued long-term debt in 2008.
c. The firm issued new common stock in 2008.
d. The firm repurchased some common stock in 2008.
e. The firm had negative net income in 2008.

45. The Nantell Corporation just purchased an expensive piece of equipment. Assume that the
firm planned to depreciate the equipment over 5 years on a straight-line basis, but Congress
then passed a provision that requires the company to depreciate the equipment on a
straight-line basis over 7 years. Other things held constant, which of the following will occur
as a result of this Congressional action? Assume that the company uses the same
depreciation method for tax and stockholder reporting purposes.
a. Nantells taxable income will be lower.
b. Nantells operating income (EBIT) will increase.
c. Nantells cash position will improve (increase).
d. Nantells reported net income for the year will be lower.
e. Nantells tax liability for the year will be lower.

46. Which of the following statements is CORRECT?

a. An increase in accounts receivable is added to net income in the operating activities
section because if accounts receivable increase, then when they are collected cash
will come into the firm.
b. In finance, we are generally more interested in cash flows than in accounting profits.
Free cash flow (FCF) is calculated as after-tax operating income plus depreciation less
the sum of capital expenditures and net working capital. Free cash flow is the amount
of cash that could be withdrawn without harming the firm's ability to operate and to
produce future cash flows.
c. The first major section of a typical statement of cash flows is "Operating Activities," and
the first entry in this section is "Net Income." Then, also in the first section, we show
some items that add to or subtract from cash, and the last entry is called "Net Cash
Provided by Operating Activities." This number can be either positive or negative, but if
it is negative, the firm is almost certain to soon go bankrupt.
d. The next-to-last line on the income statement shows the firm's earnings, while the last
line shows the dividends the company paid. Therefore, the dividends are frequently
called "the bottom line."
e. Most rapidly growing companies have positive free cash flows because cash flows
from existing operations will exceed fixed assets and working capital needed to
support the growth.
B

47. Bauer Software's current balance sheet shows total common equity of $5,125,000. The
company has 490,000 shares of stock outstanding, and they sell at a price of $27.50 per
share. By how much do the firm's market and book values per share differ?
a. $18.57
 b. $19.09
c. $20.28
d. $17.04
e. $18.23

ANS: D
Shares outstanding 490,000
Price per share $27.50
Total book common equity $5,125,000
Book value per share = Total book equity/Number of $10.46
shares
Difference between book and market values $17.04

48. Rao Construction recently reported $23.50 million of sales, $12.60 million of operating costs
other than depreciation, and $3.00 million of depreciation. It had $8.50 million of bonds
outstanding that carry a 7.0% interest rate, and its federal-plus-state income tax rate was
40%. What was Rao's operating income, or EBIT, in millions?

a. $6.56
b. $6.95
c. $8.22
d. $7.90
e. $5.93

ANS: D
Sales $23.50
Operating costs excluding depreciation $12.60
Depreciation $3.00
Operating income (EBIT) $7.90
Note that operating income is before interest and taxes.

49. Which of the following statements is most correct?

a. A good goal for a corporate manager is maximization of expected EPS.
b. Most business in the U.S. is conducted by corporations; corporations popularity results
primarily from their favorable tax treatment.
c. A good example of an agency relationship is the one between stockholders and
managers.
d. Corporations and partnerships have an advantage over proprietorships because a sole
proprietor is subject to unlimited liability, but investors in the other types of businesses
are not.
e. Firms in highly competitive industries find it easier to exercise social responsibility than
do firms in oligopolistic industries.
 C

50. Which of the following statements is most correct?

a. Bond covenants are a good way to resolve agency conflicts between stockholders and
managers.
b. Hostile takeovers tend to reduce a companys stock price.
c. Corporations have limited liability.
d. Statements a and b are correct.
e. Statements a, b, and c are correct.