Chap 001

Chapter 01 - Introduction to Corporate Finance
Chapter 01 Introduction to Corporate Finance Answer Key

Multiple Choice Questions

1. Which one of the following terms is defined as the management of a firm's long-term
inestments!
A. wor"ing capital management
#. financial allocation
C. agency cost analysis
D. capital $udgeting
%. capital structure
&efer to section 1.1

AACSB: N/A
Difficulty: Basic
Learning Objective: 1-1
Section: 1.1
o!ic: Ca!ital bu"geting

'. Which one of the following terms is defined as the mi(ture of a firm's de$t and e)uity
financing!
#. cash management
C. cost analysis
*. capital $udgeting
E. capital structure

AACSB: N/A
Difficulty: Basic
Section: 1.1
o!ic: Ca!ital structure

1-1
+. Which one of the following is defined as a firm's short-term assets and its short-term
lia$ilities!
A. wor"ing capital
#. de$t
C. inestment capital
*. net capital
%. capital structure

AACSB: N/A
Difficulty: Basic
Section: 1.1
o!ic: #or$ing ca!ital

,. A $usiness owned $y a solitary indiidual who has unlimited lia$ility for its de$t is called
a-
A. corporation.
B. sole proprietorship.
C. general partnership.
*. limited partnership.
%. limited lia$ility company.
&efer to section 1.'

AACSB: N/A
Difficulty: Basic
Learning Objective: 1-%
Section: 1.&
o!ic: Sole !ro!rietors'i!

1-'
.. A $usiness formed $y two or more indiiduals who each hae unlimited lia$ility for all of
the firm's $usiness de$ts is called a-
A. corporation.
#. sole proprietorship.
%. limited lia$ility company.

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: (eneral !artners'i!

/. A $usiness partner whose potential financial loss in the partnership will not e(ceed his or
her inestment in that partnership is called a-
A. generally partner.
#. sole proprietor.
C. limited partner.
*. corporate shareholder.
%. 0ero partner.

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: Li)ite" !artner

1-+
1. A $usiness created as a distinct legal entity and treated as a legal 2person2 is called a-
A. corporation.
#. sole proprietorship.
%. unlimited lia$ility company.

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: Cor!oration

3. Which one of the following terms is defined as a conflict of interest $etween the corporate
shareholders and the corporate managers!
A. articles of incorporation
#. corporate $rea"down
C. agency pro$lem
*. $ylaws
%. legal lia$ility
&efer to section 1.,

AACSB: *t'ics
Difficulty: Basic
Learning Objective: 1-+
Section: 1.+
o!ic: Agency !roble)

1-,
4. A sta"eholder is-
A. a person who owns shares of stoc".
#. any person who has oting rights $ased on stoc" ownership of a corporation.
C. a person who initially founded a firm and currently has management control oer that firm.
*. a creditor to whom a firm currently owes money.
E. any person or entity other than a stoc"holder or creditor who potentially has a claim on the
cash flows of a firm.

AACSB: *t'ics
Difficulty: Basic
Section: 1.+
o!ic: Sta$e'ol"er

10. Which of the following )uestions are addressed $y financial managers!
I. 5ow should a product $e mar"eted!
II. 6hould customers $e gien +0 or ,. days to pay for their credit purchases!
III. 6hould the firm $orrow more money!
I7. 6hould the firm ac)uire new e)uipment!
A. I and I7 only
#. II and III only
C. I8 II8 and III only
D. II8 III8 and I7 only
%. I8 II8 III8 and I7

AACSB: N/A
Difficulty: Basic
Section: 1.1
o!ic: ,inancial )anage)ent

1-.
11. Which one of the following functions should $e the responsi$ility of the controller rather
than the treasurer!
A. daily cash deposit
B. income ta( returns
C. e)uipment purchase analysis
*. customer credit approal
%. payment to a endor

AACSB: N/A
Difficulty: Basic
Section: 1.1
o!ic: ,inancial )anage)ent

1'. 9he controller of a corporation generally reports directly to the-
A. $oard of directors.
#. chairman of the $oard.
C. chief e(ecutie officer.
*. president.
E. ice president of finance.

AACSB: N/A
Difficulty: Basic
Section: 1.1
o!ic: Cor!orate structure

1-/
1+. Which one of the following correctly defines the upward chain of command in a typical
corporate organi0ational structure!
A. 9he ice president of finance reports to the chairman of the $oard.
#. 9he chief e(ecutie officer reports to president.
C. 9he controller reports to the president.
D. 9he treasurer reports to the ice president of finance.
%. 9he chief operations officer reports to the ice president of production.

AACSB: N/A
Difficulty: Basic
Section: 1.1
o!ic: Cor!orate structure

1,. Which one of the following is a capital $udgeting decision!
A. determining how many shares of stoc" to issue
B. deciding whether or not to purchase a new machine for the production line
C. deciding how to refinance a de$t issue that is maturing
*. determining how much inentory to "eep on hand
%. determining how much money should $e "ept in the chec"ing account

AACSB: N/A
Difficulty: Basic
Section: 1.1

1-1
1.. Which of the following should a financial manager consider when analy0ing a capital
$udgeting pro:ect!
I. pro:ect start up costs
II. timing of all pro:ected cash flows
III. dependa$ility of future cash flows
I7. dollar amount of each pro:ected cash flow
A. I and I7 only
#. I8 II8 and I7 only
*. II8 III8 and I7 only
E. I8 II8 III8 and I7

AACSB: N/A
Difficulty: Basic
Section: 1.1

1/. Which one of the following is a capital structure decision!
A. determining which one of two pro:ects to accept
#. determining how to allocate inestment funds to multiple pro:ects
C. determining the amount of funds needed to finance customer purchases of a new product
D. determining how much de$t should $e assumed to fund a pro:ect
%. determining how much inentory will $e needed to support a pro:ect

AACSB: N/A
Difficulty: Basic
Section: 1.1

1-3
11. 9he decision to issue additional shares of stoc" is an e(ample of which one of the
following!
#. net wor"ing capital decision
C. capital $udgeting
*. controller's duties
E. capital structure decision

AACSB: N/A
Difficulty: Basic
Section: 1.1

13. Which of the following accounts are included in wor"ing capital management!
I. accounts paya$le
II. accounts receia$le
III. fi(ed assets
I7. inentory
A. I and II only
#. I and III only
C. II and I7 only
D. I8 II8 and I7 only
%. II8 III8 and I7 only

AACSB: N/A
Difficulty: Basic
Section: 1.1
o!ic: #or$ing ca!ital )anage)ent

1-4
14. Which one of the following is a wor"ing capital management decision!
A. determining the amount of e)uipment needed to complete a :o$
B. determining whether to pay cash for a purchase or use the credit offered $y the supplier
C. determining the amount of long-term de$t re)uired to complete a pro:ect
*. determining the num$er of shares of stoc" to issue to fund an ac)uisition
%. determining whether or not a pro:ect should $e accepted

AACSB: N/A
Difficulty: Basic
Section: 1.1
o!ic: #or$ing ca!ital )anage)ent

'0. Which one of the following statements concerning a sole proprietorship is correct!
A. A sole proprietorship is designed to protect the personal assets of the owner.
#. 9he profits of a sole proprietorship are su$:ect to dou$le ta(ation.
C. 9he owner of a sole proprietorship is personally responsi$le for all of the company's de$ts.
*. 9here are ery few sole proprietorships remaining in the ;.6. today.
%. A sole proprietorship is structured the same as a limited lia$ility company.

AACSB: N/A
Difficulty: Basic
Section: 1.&

1-10
'1. Which one of the following statements concerning a sole proprietorship is correct!
A. 9he life of a sole proprietorship is potentially unlimited.
#. A sole proprietor can generally raise large sums of capital )uite easily.
C. 9ransferring ownership of a sole proprietorship is easier than transferring ownership of a
corporation.
*. A sole proprietorship is ta(ed the same as a C corporation.
E. It is easy to create a sole proprietorship.

AACSB: N/A
Difficulty: Basic
Section: 1.&

''. Which of the following indiiduals hae unlimited lia$ility $ased on their ownership
interest!
I. general partner
II. sole proprietor
III. stoc"holder
I7. limited partner
A. II only
B. I and II only
C. II and I7 only
*. I8 II8 and III only
%. I8 II8 and I7 only

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: -nli)ite" liability

1-11
'+. Which one of the following $est descri$es the primary adantage of $eing a limited
partner instead of a general partner!
A. ta(-free income
#. actie participation in the firm's actiities
C. no potential financial loss
*. greater control oer the $usiness affairs of the partnership
E. ma(imum loss limited to the capital inested

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: Li)ite" !artner

',. A general partner-
A. is solely responsi$le for all the partnership de$ts.
#. has no say oer a firm's daily operations.
C. faces dou$le ta(ation whereas a limited partner does not.
*. has a ma(imum loss e)ual to his or her e)uity inestment.
%. receies a salary in lieu of a portion of the profits.

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: (eneral !artner

1-1'
'.. A limited partnership-
A. has an unlimited life.
#. can opt to $e ta(ed as a corporation.
C. terminates at the death of any limited partner.
D. has a greater a$ility to raise capital than a sole proprietorship.
%. consists solely of limited partners.

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: .artners'i!

'/. Which of the following apply to a partnership that consists solely of general partners!
I. dou$le ta(ation of partnership profits
II. limited partnership life
III. actie inolement in the firm $y all the partners
I7. unlimited personal lia$ility for all partnership de$ts
A. II only
#. I and II only
C. II and III only
*. I8 II8 and I7 only
E. II8 III8 and I7 only

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: .artners'i!

1-1+
'1. Which of the following are adantages of the corporate form of $usiness ownership!
I. limited lia$ility for firm de$t
II. dou$le ta(ation
III. a$ility to raise capital
I7. unlimited firm life
A. I and II only
#. III and I7 only
C. I8 III8 and I7 only
%. I8 II8 III8 and I7

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: Cor!oration

'3. Which one of the following statements is correct!
A. 9he ma:ority of firms in the ;.6. are structured as corporations.
#. Corporate profits are ta(a$le income to the shareholders when earned.
C. Corporations can raise large amounts of capital generally easier than partnerships can.
*. 6toc"holders face no potential losses related to their corporate inestment.
%. Corporate shareholders elect the corporate president.

AACSB: N/A
Difficulty: /nter)e"iate
Section: 1.&
o!ic: Cor!oration

1-1,
'4. Which one of the following statements is correct!
A. A general partnership is legally the same as a corporation.
B. #oth sole proprietorship and partnership income is ta(ed as indiidual income.
C. <artnerships are the most complicated type of $usiness to form.
*. All $usiness organi0ations hae $ylaws.
%. =nly firms organi0ed as sole proprietorships hae limited lies.

AACSB: N/A
Section: 1.&
o!ic: Business entity

+0. 9he articles of incorporation-
I. descri$e the purpose of the firm.
II. are amended periodically.
III. set forth the num$er of shares of stoc" that can $e issued.
I7. detail the method that will $e used to elect corporate directors.
A. I and III only
#. I and I7 only
C. II and III only
*. II and I7 only
%. I8 III8 and I7 only

AACSB: N/A
Section: 1.&
o!ic: Articles of incor!oration

1-1.
+1. Corporate $ylaws-
A. must $e amended should a firm decide to increase the num$er of shares authori0ed.
#. cannot $e amended once adopted.
C. define the name $y which the firm will operate.
*. descri$e the intended life and purpose of the organi0ation.
E. determine how a corporation regulates itself.

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: Cor!orate byla0s

+'. Which one of the following characteristics applies to a limited lia$ility company!
A. aaila$le only to firms haing a single owner
#. limited lia$ility for limited partners only
C. ta(ed similar to a partnership
*. ta(ed similar to a C corporation
%. all income generated is totally ta(-free

AACSB: N/A
Section: 1.&
o!ic: Li)ite" liability co)!any

1-1/
++. Which one of the following $usiness types is $est suited to raising large amounts of
capital!
A. sole proprietorship
#. limited lia$ility company
C. corporation
*. general partnership
%. limited partnership

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: Cor!oration

+,. Which type of $usiness organi0ation has all the respectie rights and priileges of a legal
person!
#. general partnership
C. limited partnership
D. corporation
%. limited lia$ility company

AACSB: N/A
Difficulty: Basic
Section: 1.&
o!ic: Cor!oration

1-11
+.. 6am8 Alfredo8 and >uan want to start a small ;.6. $usiness. >uan will fund the enture $ut
wants to limit his lia$ility to his initial inestment and has no interest in the daily operations.
6am will contri$ute his full efforts on a daily $asis $ut has limited funds to inest in the
$usiness. Alfredo will $e inoled as an actie consultant and manager and will also
contri$ute funds. 6am and Alfredo are willing to accept lia$ility for the firm's de$ts as they
feel they hae nothing to lose $y doing so. All three indiiduals will share in the firm's profits
and wish to "eep the initial organi0ational costs of the $usiness to a minimum. Which form of
$usiness entity should these indiiduals adopt!
#. :oint stoc" company
*. general partnership
%. corporation

AACSB: 1eflective t'in$ing
Section: 1.&
o!ic: Li)ite" !artners'i!

+/. 6ally and Alicia currently are general partners in a $usiness located in Atlanta8 ?eorgia.
9hey are content with their current ta( situation $ut are $oth ery uncomforta$le with the
unlimited lia$ility to which they are each su$:ected. Which form of $usiness entity should
they consider to replace their general partnership assuming they wish to remain the only two
owners of their $usiness! Whicheer organi0ation they select8 they wish to $e treated e)ually.
#. :oint stoc" company
D. limited lia$ility company
%. corporation

Section: 1.&
o!ic: Li)ite" liability co)!any

1-13
+1. Which one of the following $est states the primary goal of financial management!
A. ma(imi0e current diidends per share
B. ma(imi0e the current alue per share
C. increase cash flow and aoid financial distress
*. minimi0e operational costs while ma(imi0ing firm efficiency
%. maintain steady growth while increasing current profits
&efer to section 1.+

AACSB: N/A
Difficulty: Basic
Learning Objective: 1-&
Section: 1.%
o!ic: (oal of financial )anage)ent

+3. Which one of the following $est illustrates that the management of a firm is adhering to
the goal of financial management!
A. increase in the amount of the )uarterly diidend
#. decrease in the per unit production costs
C. increase in the num$er of shares outstanding
*. decrease in the net wor"ing capital
E. increase in the mar"et alue per share

AACSB: N/A
Section: 1.%

1-14
+4. Why should financial managers strie to ma(imi0e the current alue per share of the
e(isting stoc"!
A. doing so guarantees the company will grow in si0e at the ma(imum possi$le rate
#. doing so increases employee salaries
C. $ecause they hae $een hired to represent the interests of the current shareholders
*. $ecause this will increase the current diidends per share
%. $ecause managers often receie shares of stoc" as part of their compensation

AACSB: N/A
Section: 1.%

,0. *ecisions made $y financial managers should primarily focus on increasing which one of
the following!
A. si0e of the firm
#. growth rate of the firm
C. gross profit per unit produced
D. mar"et alue per share of outstanding stoc"
%. total sales

AACSB: N/A
Section: 1.%

1-'0
,1. 9he 6ar$anes-=(ley Act of '00' is a goernmental response to-
A. decreasing corporate profits.
#. the terrorists attac"s on 4@11@'001.
C. a wea"ening economy.
*. deregulation of the stoc" e(changes.
E. management greed and a$uses.

AACSB: *t'ics
Difficulty: Basic
Section: 1.%
o!ic: Sarbo2

,'. Which one of the following is an unintended result of the 6ar$anes-=(ley Act!
A. more detailed and accurate financial reporting
#. increased management awareness of internal controls
C. corporations delisting from ma:or e(changes
*. increased responsi$ility for corporate officers
%. identification of internal control wea"nesses

AACSB: *t'ics
Difficulty: Basic
Section: 1.%
o!ic: Sarbo2

1-'1
,+. A firm which opts to 2go dar"2 in response to the 6ar$anes-=(ley Act-
A. must continue to proide audited financial statements to the pu$lic.
#. must continue to proide a detailed list of internal control deficiencies on an annual $asis.
C. can proide less information to its shareholders than it did prior to 2going dar"2.
*. can continue pu$licly trading its stoc" $ut only on the e(change on which it was preiously
listed.
%. ceases to e(ist.

AACSB: *t'ics
Section: 1.%
o!ic: Sarbo2

,,. Which of the following are results related to the enactment of the 6ar$anes-=(ley Act of
'00'!
I. increased foreign stoc" e(change listings of ;.6. stoc"s
II. decreased compliance costs
III. increased priati0ation of pu$lic corporations
I7. increased pu$lic disclosure $y all corporations
A. I and III only
#. II and I7 only
%. I8 III8 and I7 only

AACSB: *t'ics
Section: 1.%
o!ic: Sarbo2

1-''
,.. Which one of the following actions $y a financial manager is most apt to create an agency
pro$lem!
A. refusing to $orrow money when doing so will create losses for the firm
#. refusing to lower selling prices if doing so will reduce the net profits
C. refusing to e(pand the company if doing so will lower the alue of the e)uity
*. agreeing to pay $onuses $ased on the mar"et alue of the company stoc" rather than on the
firm's leel of sales
E. increasing current profits when doing so lowers the alue of the firm's e)uity

AACSB: *t'ics
Section: 1.+

,/. Which of the following help conince managers to wor" in the $est interest of the
stoc"holders! Assume there are no golden parachutes.
I. compensation $ased on the alue of the stoc"
II. stoc" option plans
III. threat of a company ta"eoer
I7. threat of a pro(y fight
A. I and II only
#. III and I7 only
*. I8 III8 and I7 only
E. I8 II8 III8 and I7

AACSB: *t'ics
Difficulty: Basic
Section: 1.+

1-'+
,1. Which form of $usiness structure is most associated with agency pro$lems!
#. general partnership
D. corporation
%. limited lia$ility company

AACSB: *t'ics
Difficulty: Basic
Section: 1.+

,3. Which one of the following is an agency cost!
A. accepting an inestment opportunity that will add alue to the firm
#. increasing the )uarterly diidend
C. inesting in a new pro:ect that creates firm alue
D. hiring outside accountants to audit the company's financial statements
%. closing a diision of the firm that is operating at a loss

AACSB: *t'ics
Difficulty: Basic
Section: 1.+
o!ic: Agency cost

1-',
,4. Which one of the following is least li"ely to $e an agency pro$lem!
A. increasing the si0e of a firm
#. concentrating on ma(imi0ing current profits
C. closing a diision with net losses
D. increasing the mar"et alue of the firm's shares
%. o$taining a patent for a new product

AACSB: *t'ics
Section: 1.+
o!ic: Agency cost

.0. Which one of the following is a means $y which shareholders can replace company
management!
A. stoc" options
#. promotion
C. 6ar$anes-=(ley Act
*. agency play
E. pro(y fight

AACSB: N/A
Difficulty: Basic
Section: 1.+
o!ic: .ro2y fig't

1-'.
.1. Which one of the following grants an indiidual the right to ote on $ehalf of a
shareholder!
A. pro(y
#. $y-laws
C. indenture agreement
*. stoc" option
%. stoc" audit

AACSB: N/A
Difficulty: Basic
Section: 1.+
o!ic: .ro2y

.'. Which one of the following parties has ultimate control of a corporation!
A. chairman of the #oard
#. $oard of directors
C. chief e(ecutie officer
*. chief operating office
E. shareholders

AACSB: N/A
Difficulty: Basic
Section: 1.+
o!ic: Cor!orate res!onsibility

1-'/
.+. Which of the following parties are considered sta"eholders of a firm!
I. employee
II. long-term creditor
III. goernment
I7. common stoc"holder
A. I only
#. I7 only
C. I and III only
*. II and I7 only

AACSB: N/A
Difficulty: Basic
Section: 1.+
o!ic: Sta$e'ol"er

.,. Which of the following represent cash outflows from a corporation!
I. issuance of securities
II. payment of diidends
III. new loan proceeds
I7. payment of goernment ta(es
A. I and III only
B. II and I7 only
C. I and I7 only
*. I8 II8 and I7 only
&efer to section 1..

AACSB: N/A
Difficulty: Basic
Section: 1.3
o!ic: Cas' outflo0s

1-'1
... Which of the following are cash flows from a corporation into the financial mar"ets!
I. repayment of long-term de$t
II. payment of goernment ta(es
III. payment of loan interest
I7. payment of )uarterly diidend
A. I and II only
#. I and III only
C. II and I7 only
D. I8 III8 and I7 only
%. I8 II8 and III only

AACSB: N/A
Difficulty: Basic
Section: 1.3
o!ic: Cas' flo0s

./. Which one of the following is a primary mar"et transaction!
A. sale of currently outstanding stoc" $y a dealer to an indiidual inestor
B. sale of a new share of stoc" to an indiidual inestor
C. stoc" ownership transfer from one shareholder to another shareholder
*. gift of stoc" from one shareholder to another shareholder
%. gift of stoc" $y a shareholder to a family mem$er

AACSB: N/A
Difficulty: Basic
Section: 1.3
o!ic: .ri)ary )ar$et

1-'3
.1. 6hareholder A sold .00 shares of A#C stoc" on the Aew Bor" 6toc" %(change. 9his
transaction-
A. too" place in the primary mar"et.
#. occurred in a dealer mar"et.
C. was facilitated in the secondary mar"et.
*. inoled a pro(y.
%. was a priate placement.

AACSB: N/A
Difficulty: Basic
Section: 1.3
o!ic: Secon"ary )ar$et

.3. <u$lic offerings of de$t and e)uity must $e registered with which one of the following!
A. Aew Bor" #oard of ?oernors
#. Federal &esere
C. AB6% &egistration =ffice
D. 6ecurities and %(change Commission
%. Car"et *ealers %(change

AACSB: N/A
Difficulty: Basic
Section: 1.3
o!ic: S*C

1-'4
.4. Which one of the following statements is generally correct!
A. <riate placements must $e registered with the 6%C.
#. All secondary mar"ets are auction mar"ets.
C. *ealer mar"ets hae a physical trading floor.
D. Auction mar"ets match $uy and sell orders.
%. *ealers arrange trades $ut neer own the securities traded.

AACSB: N/A
Section: 1.3
o!ic: Auction an" "ealer )ar$ets

/0. Which one of the following statements concerning stoc" e(changes is correct!
A. AA6*AD is a $ro"er mar"et.
#. 9he AB6% is a dealer mar"et.
C. 9he e(change with the strictest listing re)uirements is AA6*AD.
D. 6ome large companies are listed on AA6*AD.
%. Cost de$t securities are traded on the AB6%.

AACSB: N/A
Section: 1.3
o!ic: N4S* an" NASDA5

1-+0
/1. 6hareholder A sold shares of Caplewood Ca$inets stoc" to 6hareholder #. 9he stoc" is
listed on the AB6%. 9his trade occurred in which one of the following!
A. primary8 dealer mar"et
#. secondary8 dealer mar"et
C. primary8 auction mar"et
D. secondary8 auction mar"et
%. secondary8 =9C mar"et

AACSB: N/A
Section: 1.3
o!ic: Secon"ary auction )ar$et

/'. Which one of the following statements is correct concerning the AB6%!
A. 9he pu$licly traded shares of a AB6%-listed firm must $e worth at least E'.0 million.
#. 9he AB6% is the largest dealer mar"et for listed securities in the ;nited 6tates.
C. 9he listing re)uirements for the AB6% are more stringent than those of AA6*AD.
*. Any corporation desiring to $e listed on the AB6% can do so for a fee.
%. 9he AB6% is an =9C mar"et functioning as $oth a primary and a secondary mar"et.

AACSB: N/A
Section: 1.3
o!ic: N4S*

1-+1
/+. Which one of the following statements concerning AA6*AD is FAF6%!
A. It is easier to $e listed on AA6*AD than on the AB6%.
#. AA6*AD is an electronic mar"et.
C. AA6*AD is a dealer mar"et.
*. AA6*AD is an =9C mar"et.
E. AA6*AD is an auction mar"et.

AACSB: N/A
Difficulty: Basic
Section: 1.3
o!ic: NASDA5

Essay Questions

/,. Fist and $riefly descri$e the three general areas of responsi$ility for a financial manager.
9he three $asic areas are-
1. capital $udgeting- the identification of inestment opportunities that hae a positie net
alue
'. capital structure- the mi( of long-term de$t and e)uity used to finance a firm's operations
+. wor"ing capital management- the daily control of a firm's short-term assets and short-term
lia$ilities
Feed$ac"- &efer to section 1.1

Section: 1.1
o!ic: ,inancial )anager

1-+'
/.. *escri$e the "ey adantages associated with the corporate form of organi0ation.
9he adantages of the corporate form of organi0ation are the ease of transferring ownership8
the owners' limited lia$ility for $usiness de$ts8 the a$ility to raise large amounts of capital8
and the potential for an unlimited life for the organi0ation.
Feed$ac"- &efer to section 1.'

Section: 1.&
o!ic: Cor!oration

//. Why are so many $usinesses structured as sole proprietorships when the corporate form of
$usiness offers more adantages!
A significant adantage of the sole proprietorship is that it is ine(pensie and easy to form. If
the sole proprietor has limited capital to start with8 it may not $e desira$le to spend part of that
capital forming a corporation. Also8 limited lia$ility for $usiness de$ts may not $e a
significant adantage if the proprietor has most of his or her personal assets tied up in the
$usiness already. Finally8 for a typical small firm8 haing an unlimited life for the $usiness has
no real adantage since the heart and soul of the $usiness is the person who founded it8
there$y effectiely limiting the life of the $usiness to that of its founder.

Section: 1.&

1-++
/1. What concerns might a loan officer hae when loaning funds to a sole proprietorship that
he or she might not hae when loaning funds to a corporation!
9he e(istence and ia$ility of a sole proprietor is dependent upon one indiidual. 6hould that
indiidual die8 the entity would cease to e(ist. Fi"ewise8 should the owner lose interest in the
$usiness or $ecome ill8 the $usiness might also cease to e(ist. With a corporation8 the
company ownership could $e sold in any one of those situations such that the $usiness entity
would continue to e(ist.

Section: 1.&
o!ic: Organi6ational structure

/3. From a lia$ility point of iew8 what is the difference $etween inesting in a sole
proprietorship and a general partnership!
#oth a sole proprietor and a general partner hae unlimited lia$ility for the firm's de$ts.
5oweer8 as a sole proprietor you should $e totally aware of all the $usiness dealings of the
firm. In a general partnership8 you may or may not handle the financial transactions and thus
are accepting the responsi$ility for actions ta"en not only $y yourself8 $ut those of your
partners.

Section: 1.&
o!ic: .ersonal liability

1-+,
/4. ?ie some e(amples of ways in which manager's goals can differ from those of
shareholders.
9he primary goal of a financial manager should $e to ma(imi0e the current alue of the
outstanding stoc". 9his goal focuses on enhancing the returns to stoc"holders who are the
owners of the firm. 5oweer8 managers fre)uently are more concerned with their personal
$enefits from employment8 the prestige of their position8 and the per"s to which they feel
entitled. 9here are numerous e(amples8 some of which are e(cessie compensation pac"ages8
large corporate offices8 e(cessie staffing8 and first-class trael and conference locations8 to
name a few.
Feed$ac"- &efer to section 1.,

AACSB: *t'ics
Section: 1.+
o!ic: Agency conflict

10. 5ow do the actual effects of the 6ar$anes-=(ley Act of '00' compare to the initial intent
of that Act!
6ome of the "ey re)uirements of 6ar$anes-=(ley are- the prohi$ition of personal loans from
the company to its officers8 an annual report $y management of the internal control and
financial reporting within the firm along with an independent auditor's assessment of that
report8 a reiew and sign off $y the corporate officers of the annual financial statements8 and
the responsi$ility for the accuracy of the financial reports placed directly on senior
management of the firm. While firms that hae opted to remain pu$licly-owned are
complying with these re)uirements8 they are paying a cost to do so. 9his cost has caused other
firms to 2go dar"2 or to opt for listing on a foreign e(change rather than a ;.6. e(change.
While some of the results do match the intent of the Act8 the costs8 2going dar"28 and foreign
listings were most li"ely not intended $y the supporters of the Act.
Feed$ac"- &efer to section 1.+

AACSB: *t'ics
Section: 1.%
o!ic: Sarbo2

1-+.
11. 5ow might agency pro$lems arise in partnerships!
Agency conflicts typically arise when there is a separation $etween the ownership and the
management of a $usiness. In a general partnership8 especially if the partnership is small8
there is less of a chance of an agency conflict if all the partners are inoled with the $usiness
on a regular $asis. 5oweer8 in a limited partnership8 the opportunity e(ists for an agency
pro$lem to arise $etween the general and the limited partners.
Feed$ac"- &efer to section 1.,

AACSB: *t'ics
Section: 1.+
o!ic: Agency conflict

1'. Compare and contrast the AB6% with A6A*AD.
9he AB6% is an auction mar"et where sell orders are matched with $uy orders. 9he AB6%
has a physical trading floor located on Wall 6treet in Aew Bor" City. AA6*AD is a dealer
mar"et which is solely electronic and therefore has no physical trading floor. *ealers $uy and
sell for their own inentory. 9he listing re)uirements of the AB6% are more stringent than
those of AA6*AD and thus the AB6% tends to list larger firms with smaller firms $eing
listed on AA6*AD. Aote howeer8 that larger firms can8 and do8 opt to remain on AA6*AD
een though they )ualify for AB6% listing.
Feed$ac"- &efer to section 1..

Section: 1.3
o!ic: *2c'anges

1-+/

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Chapter 01 - Introduction to Corporate Finance

Chapter 01 Introduction to Corporate Finance Answer Key

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