Corporate Finance UPDATED Actual
Exam Questions and CORRECT Answers
Financial break-even - CORRECT ANSWER✔✔ Financial break even
NPV solved=0, OCF* for NPV=0
Q=(FC+OCF*)/ (P-v)
v=variable cost per unit
General Break-Even - CORRECT ANSWER✔✔ Q=(FC+OCF) /(P-v)
Constant Growth Model (infinite) - CORRECT ANSWER✔✔ a widely cited dividend
valuation approach that assumes that dividends will grow at a constant rate, but a rate that is
less than the required return
Constant Growth Model (finite) - CORRECT ANSWER✔✔ Should include terminal value
(what you sell it for) @ end
To do so you calculate the non-constant growth rate until horizon date T...then calculate the
terminal value as you would in an infinite CGM w/ denominator raised to power T
expected rate of return (constant growth model) - CORRECT ANSWER✔✔ The rate of
return expected to be realized from an investment; the weighted average of the probability
distribution of possible results
capital gains yield - CORRECT ANSWER✔✔ the dividend growth rate, or the rate at which
the value of an investment grows
Dividend Yield - CORRECT ANSWER✔✔ a stock's expected cash dividend divided by its
current price
terminal value (Horizon Value) - CORRECT ANSWER✔✔ the sale price at the end of the
expected holding period
,Perpetual Growth Method - CORRECT ANSWER✔✔ dividing the last cash flow forecast by
the difference between the discount rate and terminal growth rate. The terminal value
calculation estimates the value of the company after the forecast period.
(FCF * (1 + g)) / (d - g)
Free Cash Flow Valuation Model - CORRECT ANSWER✔✔ A model that determines the
value of an entire company as the present value of its expected free cash flows discounted at
the firm's weighted average cost of capital, which is its expected average future cost of funds
over the long run.
FCF Constant Growth Model - CORRECT ANSWER✔✔ A variation of the constant growth
model
Market Multiple Analysis - CORRECT ANSWER✔✔ A method of valuing a target company
that applies a market determined multiple to net income, earnings per share, sales, book
value, and so forth.
Preferred Stock Dividends - CORRECT ANSWER✔✔ Fixed. Have priority over common
stock dividends.
convertible preferred stock - CORRECT ANSWER✔✔ Preferred stock with an option to
exchange it for common stock at a specified rate.
cumulative preferred stock - CORRECT ANSWER✔✔ Preferred stock on which undeclared
dividends accumulate until paid; common stockholders cannot receive dividends until
cumulative dividends are paid.
Free Cash Flow - CORRECT ANSWER✔✔ net operating profit after taxes (NOPAT), add in
depreciation expense, then subtract money set aside for capital expenditures and any need for
increasing working capital
Capital Asset Pricing Model (CAPM) - CORRECT ANSWER✔✔ a model that relates the
required rate of return on a security to its systematic risk as measured by beta
,call option - CORRECT ANSWER✔✔ the option to buy shares of stock at a specified time in
the future
put option - CORRECT ANSWER✔✔ the option to sell shares of stock at a specified time in
the future
Cash Conversion Cycle (CCC) - CORRECT ANSWER✔✔ the length of time funds are tied
up in working capital, or the length of time between paying for working capital and collecting
cash from the sale of the working capital
Return on Equity (ROE) - CORRECT ANSWER✔✔ Net Income/Total Equity
Weighted Average Cost of Capital (WACC) - CORRECT ANSWER✔✔ the weighted
average of the cost of equity and the aftertax cost of debt
Why is Equity more expensive than Debt? - CORRECT ANSWER✔✔ Because it comes w/
higher expected rate of return due to higher risk (residual claimant of the firm's cash flows)
Levered Beta - CORRECT ANSWER✔✔ The unlevered beta adjusted for financial risk due
to leverage
Unlevered Beta - CORRECT ANSWER✔✔ The firm's beta coefficient if it has no debt
working capital requirement - CORRECT ANSWER✔✔ (Current assets - inventory) -
current liabilities
Net Present Value (NPV) - CORRECT ANSWER✔✔ the sum of the present values of
expected future cash flows from an investment, minus the cost of that investment
Internal Rate of Return (IRR) - CORRECT ANSWER✔✔ the discount rate that makes the
NPV of an investment zero
, How do we value a share of stock? - CORRECT ANSWER✔✔ Collapse future earnings
down to present value equivalents
Disintermediation - CORRECT ANSWER✔✔ the long-term trend of moving away from
banks to markets for capital requirements
Risk-free rate - CORRECT ANSWER✔✔ No such thing...but many use 10 year Treasury
bonds as a proxy for the risk-free rate
Flotation Costs - CORRECT ANSWER✔✔ the transaction cost incurred when a firm raises
funds by issuing a particular type of security
Flotation Cost Adjustment - CORRECT ANSWER✔✔ the amount that must be added to cost
of retained earnings to account for flotation costs to find cost of new common stock
pure play method - CORRECT ANSWER✔✔ a method for estimating a project's or
division's beta that attempts to identify publicly traded firms engaged solely in the same
business as the project or division
Accounting Beta Method for Estimating Beta - CORRECT ANSWER✔✔ Run regression
between project's ROA and S&P Index ROA.
Accounting betas are correlated (0.5 - 0.6) with market betas.
But normally can't get data on new projects' ROAs before the capital budgeting decision has
been made.
effective rate of interest - CORRECT ANSWER✔✔ the annual rate of return that is actually
earned (or charged) during the period the funds are held (or borrowed) k=compounding
periods
Special Purpose Vehicle - CORRECT ANSWER✔✔ A legal entity to which the assets used
as collateral in an ABS issue are sold. This transaction separates the assets backing the ABS
from the other assets of the company that creates the SPV.
Exam Questions and CORRECT Answers
Financial break-even - CORRECT ANSWER✔✔ Financial break even
NPV solved=0, OCF* for NPV=0
Q=(FC+OCF*)/ (P-v)
v=variable cost per unit
General Break-Even - CORRECT ANSWER✔✔ Q=(FC+OCF) /(P-v)
Constant Growth Model (infinite) - CORRECT ANSWER✔✔ a widely cited dividend
valuation approach that assumes that dividends will grow at a constant rate, but a rate that is
less than the required return
Constant Growth Model (finite) - CORRECT ANSWER✔✔ Should include terminal value
(what you sell it for) @ end
To do so you calculate the non-constant growth rate until horizon date T...then calculate the
terminal value as you would in an infinite CGM w/ denominator raised to power T
expected rate of return (constant growth model) - CORRECT ANSWER✔✔ The rate of
return expected to be realized from an investment; the weighted average of the probability
distribution of possible results
capital gains yield - CORRECT ANSWER✔✔ the dividend growth rate, or the rate at which
the value of an investment grows
Dividend Yield - CORRECT ANSWER✔✔ a stock's expected cash dividend divided by its
current price
terminal value (Horizon Value) - CORRECT ANSWER✔✔ the sale price at the end of the
expected holding period
,Perpetual Growth Method - CORRECT ANSWER✔✔ dividing the last cash flow forecast by
the difference between the discount rate and terminal growth rate. The terminal value
calculation estimates the value of the company after the forecast period.
(FCF * (1 + g)) / (d - g)
Free Cash Flow Valuation Model - CORRECT ANSWER✔✔ A model that determines the
value of an entire company as the present value of its expected free cash flows discounted at
the firm's weighted average cost of capital, which is its expected average future cost of funds
over the long run.
FCF Constant Growth Model - CORRECT ANSWER✔✔ A variation of the constant growth
model
Market Multiple Analysis - CORRECT ANSWER✔✔ A method of valuing a target company
that applies a market determined multiple to net income, earnings per share, sales, book
value, and so forth.
Preferred Stock Dividends - CORRECT ANSWER✔✔ Fixed. Have priority over common
stock dividends.
convertible preferred stock - CORRECT ANSWER✔✔ Preferred stock with an option to
exchange it for common stock at a specified rate.
cumulative preferred stock - CORRECT ANSWER✔✔ Preferred stock on which undeclared
dividends accumulate until paid; common stockholders cannot receive dividends until
cumulative dividends are paid.
Free Cash Flow - CORRECT ANSWER✔✔ net operating profit after taxes (NOPAT), add in
depreciation expense, then subtract money set aside for capital expenditures and any need for
increasing working capital
Capital Asset Pricing Model (CAPM) - CORRECT ANSWER✔✔ a model that relates the
required rate of return on a security to its systematic risk as measured by beta
,call option - CORRECT ANSWER✔✔ the option to buy shares of stock at a specified time in
the future
put option - CORRECT ANSWER✔✔ the option to sell shares of stock at a specified time in
the future
Cash Conversion Cycle (CCC) - CORRECT ANSWER✔✔ the length of time funds are tied
up in working capital, or the length of time between paying for working capital and collecting
cash from the sale of the working capital
Return on Equity (ROE) - CORRECT ANSWER✔✔ Net Income/Total Equity
Weighted Average Cost of Capital (WACC) - CORRECT ANSWER✔✔ the weighted
average of the cost of equity and the aftertax cost of debt
Why is Equity more expensive than Debt? - CORRECT ANSWER✔✔ Because it comes w/
higher expected rate of return due to higher risk (residual claimant of the firm's cash flows)
Levered Beta - CORRECT ANSWER✔✔ The unlevered beta adjusted for financial risk due
to leverage
Unlevered Beta - CORRECT ANSWER✔✔ The firm's beta coefficient if it has no debt
working capital requirement - CORRECT ANSWER✔✔ (Current assets - inventory) -
current liabilities
Net Present Value (NPV) - CORRECT ANSWER✔✔ the sum of the present values of
expected future cash flows from an investment, minus the cost of that investment
Internal Rate of Return (IRR) - CORRECT ANSWER✔✔ the discount rate that makes the
NPV of an investment zero
, How do we value a share of stock? - CORRECT ANSWER✔✔ Collapse future earnings
down to present value equivalents
Disintermediation - CORRECT ANSWER✔✔ the long-term trend of moving away from
banks to markets for capital requirements
Risk-free rate - CORRECT ANSWER✔✔ No such thing...but many use 10 year Treasury
bonds as a proxy for the risk-free rate
Flotation Costs - CORRECT ANSWER✔✔ the transaction cost incurred when a firm raises
funds by issuing a particular type of security
Flotation Cost Adjustment - CORRECT ANSWER✔✔ the amount that must be added to cost
of retained earnings to account for flotation costs to find cost of new common stock
pure play method - CORRECT ANSWER✔✔ a method for estimating a project's or
division's beta that attempts to identify publicly traded firms engaged solely in the same
business as the project or division
Accounting Beta Method for Estimating Beta - CORRECT ANSWER✔✔ Run regression
between project's ROA and S&P Index ROA.
Accounting betas are correlated (0.5 - 0.6) with market betas.
But normally can't get data on new projects' ROAs before the capital budgeting decision has
been made.
effective rate of interest - CORRECT ANSWER✔✔ the annual rate of return that is actually
earned (or charged) during the period the funds are held (or borrowed) k=compounding
periods
Special Purpose Vehicle - CORRECT ANSWER✔✔ A legal entity to which the assets used
as collateral in an ABS issue are sold. This transaction separates the assets backing the ABS
from the other assets of the company that creates the SPV.
