Econ5066: Financial Markets and Corporate Finance

Quiz on Units 3-6: Time value of money, accounting,

valuation

Carsten Sprenger ASBS, University of Glasgow Spring Term 2022/23

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   Question 1

Your bank quotes an interest rate (annual percentage rate, APR) of 10% for a deposit but pays interest every day. The effective annual rate is

a) (APR/365)365 √

b) c) d)

 APR × 365 (1+ APR)365 −1

 365

the same as the APR.

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   Question 2

Accounts receivable

a) enter the calculation of net working capital with a negative sign,

b) arise when goods are sold against credit,

c) arise when goods are purchased against credit,

d) are one of the standard items in the income statement.

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   Question 3

Amortization is

a) another word for depreciation,

b) reduction in value of intangible assets,

c) reduction in value of plant, property, and equipment (tangible assets),

d) the reduction in the loan balance when part of the loan is paid back in tranches.

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   Question 4

The depreciation tax shield

a) arises because depreciation lowers the tax rate,

b) arises because depreciation lowers the tax basis,

c) equals (1−τ)D where τ is the tax rate and D is depreciation,

d) equals τD.

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   Question 5

Which of the following statements regarding growing perpetuities is FALSE?

a) We assume that r < g for a growing perpetuity.

b) PV of a growing perpetuity = C .

 r−g

c) To find the value of a growing perpetuity one cash flow at a

time would take forever.

d) A growing perpetuity is a cash flow stream that occurs at regular intervals and grows at a constant rate forever.

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   Question 6

Which of the following statements about bond yields is FALSE?

a) One advantage of quoting the yield to maturity rather than the price is that the yield is independent of the face value of the bond.

b) Unlike the case of bonds that pay coupons, for zero-coupon bonds, there is no simple formula to solve for the yield to maturity directly.

c) Because we can convert any bond price into a yield, and vice versa, bond prices and yields are often used interchangeably.

d) The IRR of an investment in a bond is given a special name, the yield to maturity (YTM).

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   Question 7

Larry the Cucumber has been offered $14 million to star in the lead role of the next three Larry Boy adventure movies. If Larry takes this offer, he will have to forgo acting in other Veggie movies that would pay him $5 million at the end of each of the next three years. Assume Larry’s personal cost of capital is 10% per year.

The IRR for Larry’s three-movie deal offer is closest to: a) 3.5%

b) 1.6%

c) −3.5%

d) −1.6%

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   Question 8

Larry the Cucumber has been offered $14 million to star in the lead role of the next three Larry Boy adventure movies. If Larry takes this offer, he will have to forgo acting in other Veggie movies that would pay him $5 million at the end of each of the next three years. Assume Larry’s personal cost of capital is 10% per year.

Larry should:

a) reject the offer because the NPV < 0.

b) accept the offer even though the IRR < 10%, because the NPV > 0.

c) reject the offer because the IRR < 10%.

d) accept the offer because the IRR > 0%.

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   Question 9

Which statement is FALSE? The equivalent annual benefit

a) is the present value of revenues minus costs multiplied by

the annuity factor,

b) can be interpreted as the benefit from renting a machine (or other item),

c) is used to compare mutually exclusive projects with unequal lifetime,

d) assumes that each project can be repeated at the same terms.

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   Question 10

A company has a market-to-book ratio of assets of 1.5. The book value of assets is 100, while the value of debt is 20. Then the market value of equity is

a) 80,

b) 120,

c) 130,

d) none of these numbers.

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   Solution key

1 c)

2 b)

3 b&d) 4 b&d) 5 a)

6 b)

7 a)

8 b)

9 a)

10 c)

Remark: There will be no multiple correct answers in the multiple choice questions exam unless explicitly stated.

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