1. Shares and bonds are float in ……………?

(a) Money market

(b) Capital market

(c) Commercial bank

(d) Equity market

2. The dividend discount model?

(a) Ignores capital gains

(b) Incorporates the after-tax value of capital gains

(c) Includes capital gains implicitly

(d) Restricts capital gains to a minimum

3. Stock that have priority of claim on assets?

(a) Common stock

(b) Preferred stock

(c) Share

(d) DDM
4. The dividend growth rate is referred to as the?

(a) Dividend yield

(b) Discount rate

(c) Market rate

(d) Capital gains yield

5. Who determine the market price of a share of common stock?

(a) The board of directors of the firm

(b) The stock exchange on which the stock is listed

(c) The president of the company

(d) Market forces buying and selling of the stock

1. The firm of Sun and Moon purchased a share of ABC.com common stock
exactly one year ago for Rs. 45. During the past year the common stock paid
an annual dividend of Rs. 2.40. The firm sold the security today for Rs. 85.
What is the rate of return the firm has earned?

Rate of Return= Ending value of Stock – (Opening or Current Value of Stock – Dividend) * 100
Opening Or Current Value of Stock

Rate of Return= 85-(45-2.40)/45*100

Rate of Return=85-42.60/45*100

Rate of Return= 42.40/45*100

Rate of Return= 94.22%

(a) 5.3%

(b) 194.2%

(c) 94.2%

(d) None
7. A preferred stock will pay a dividend of Rs. 3.00 in the upcoming year, and every
year thereafter, for three year. You require a return of 9% on this stock. Use the
constant growth model to calculate the intrinsic value of this preferred stock?

(a) Rs. 33.33

(b) Rs. 10.27

(c) Rs. 31.82

(d) Rs. 7.59

dividend discount model.

The formula is "k ÷ (i - g) = v

Intrinsic value of Stock=v= 3/(0.09-0)

In this equation:

 "k" is equal to the dividend you receive on your investment

 "i" is the rate of return you require on your investment (also called the discount rate)—you can
adjust this figure to fit your investment goals
 "g" is the average annual growth rate of the dividend
 "v" is the value of the stock that will deliver your desired return

There are 3 models used in the dividend discount model:

 zero-growth, which assumes that all dividends paid by a

stock remain the same;
 the constant-growth model, which assumes that
dividends grow by a specific percent annually;
 and the variable-growth model, which typically divides
growth into 3 phases: a fast initial phase, then a slower
transition phase that ultimately ends with a lower rate that
is sustainable over a long period.


Example: Intrinsic Value of Preferred Stock

Stock's Intrinsic Value = Annual Dividends / Required Rate of Return

If a preferred share of stock pays dividends of $1.80 per year, and the required rate
of return for the stock is 8%, then what is its intrinsic value?
Intrinsic Value of Preferred Stock = $1.80/0.08 = $22.50.

Constant-Growth Rate DDM

Formula

D1

Intrinsic Value =

(k - g)

D1 = Next Year's Dividend

 k = Capitalization Rate
g = Dividend Growth Rate

Example: Calculating Next Year's Stock Price Using the Constant-Growth DDM

If a stock pays a $4 dividend this year, and the dividend has been growing 6%
annually, then what will be the price of the stock next year, assuming a required rate
of return of 12%?
Next Year's Stock Price = $4 × 1.06 / (12% – 6%) = 4.24 / 0.06 = $70.67
This Year's Stock Price = $4 / 0.06 = $66.67
Growth Rate of Stock Price = $70.67 / $66.67 = 1.06 = Dividend Growth Rate

Expected Return = Dividend Yield + Capital Gains Yield

Implied Growth Rate Formula

D1

Implied Growth Rate

= k –
(g)

P
D1 = Next Year's Dividend
k = Capitalization Rate
P = Current Stock Price

Implied Return on Equity Formula

Implied Growth Rate

Implied Return on
=
Equity

Earnings Retention
Rate
Example: Calculating the Implied Growth Rate and Return on Equity

If:

 Current Stock Price = $65

 Next Year's Dividend = $4
 Capitalization Rate = 12%
 Earnings Retention Rate = 50%

Then

 Implied Growth Rate = .12 – 4/65 ≈ 5.8%

 Implied Return on Equity = .058/.5 = 11.6%

8. What is difference between shares and bonds?

(a) Bonds represent ownership whereas shares do not

(b) Shares represent ownership whereas bonds do not

(c) Shares and bonds both represent equity

(d) Shares and bond both represent liabilities

9. The ______ is defined as the present value of all cash proceeds to the investor in
the stock?

(a) Intrinsic value

(b) Dividend payout ratio

(c) Market capitalization rate

(d) Plowback ratio

10. You wish to earn a return of 13% on each of two stocks, X and Y. Stock X is
expected to pay a dividend of Rs. 3 in the upcoming year while Stock Y is expected
to pay a dividend of Rs. 4 in the upcoming year. The expected growth rate of
dividends for both stocks is 7%. The intrinsic value of stock X?

(a) Will be greater than the intrinsic value of stock Y

(b) Will be the same as the intrinsic value of stock Y

(c) Will be less than the intrinsic value of stock Y

(d) Cannot be calculated without knowing the market rate of return

1. Which of the following is the variability of return on stocks or portfolios
associated with changes in return on the market as a whole?

(a) Systematic risk

(b) Standard deviation

(c) Unsystematic risk

(d) Coefficient of variation

 Non-Systematic Risks include risks that are specific to a

company or industry. This kind of risk can be eliminated
through diversification across sectors and companies. The
effect of diversification is that the diversifiable risk of various
equities can offset each other.
 Systematic Risks are those risks that affect the overall stock
markets. Systematic risks can’t be mitigated through
diversification but can be well understood via an important risk
measure called as “BETA”

2. An investment proposal should be judged and accepted?

(a) A return equal to the return require by the investor

(b) A return more than required by investor

(c) A return less than required by investor

(d) None of Above

3. The conventional measure of dispersion is ________________________?

(a) A probability distribution

(b) The expected return

(c) The standard deviation

(d) Coefficient of variation

4. The rate of return you earn on an investment before adjusting for inflation is
called the ____________ rate?

(a) Nominal

(b) Real

(c) Premium

(d) Coupon

5. The additional return we must expect to receive for assuming risk?

(a) Risk discount

(b) Risk premium

(c) Par risk

(d) Risk free rate of return

6. The total risk is calculated by adding Unsystematic risk with
____________________?

(a) Systematic risk

(b) Market risk

(c) Country specific risk

(d) All of the above

7. The single investment risk that investor would face if he or she held only one
financial asset is called ________?

(a) Stand alone risk

(b) Portfolio risk

(c) Diversifiable risk

(d) Systematic risk

8. If we multiply each possible outcome by its probability of occurrence and then
sum these products than we get?

(a) Variance

(b) Expected Rate of Return

(c) Standard Deviation

(d) Co-efficient of Variation

9. _______________ is a statistical measure of the variability of a distribution around

its mean?

(a) Variance

(b) Expected rate of return

(c) Standard deviation

(d) Co-efficient of variation

10. Of the following four investments, _____________________ is considered the

safest?

(a) Commercial paper

(b) Corporate bonds

(c) Treasury bonds

(d) Treasury bills

1. A project costs $16,000.The estimated annual cash inflows during its 3 year life
are $8,000, $7,000 and $6,000 respectively. What will be the pay-back period?

(a) 2 years

(b) 2.5 years

(c) 3 years

(d) 4 years

Payback Period A B
= + C
Solution

(cash flows in
millions)
Yea Cumulati
r Annual
ve
Cash
Cash
Flow
Flow

0 (16000) (16000)
1 8000 (8000)
2 7000 (1000)
3 6000 5000

Payback Period = 2 + 1000/6000 = 2 + 0.17 ≈ 2.17 years

Payback period is the time in which the initial outlay of an investment is

expected to be recovered through the cash inflows generated by the investment. It
is one of the simplest investment appraisal techniques.

Payback Period =Initial Investment / Net Cash Flow per Period

Example 1: Even Cash Flows
Company C is planning to undertake a project requiring initial investment of
$105 million. The project is expected to generate $25 million per year in net
cash flows for 7 years. Calculate the payback period of the project.
Solution

Payback Period
= Initial Investment ÷ Annual Cash Flow
= $105M ÷ $25M
= 4.2 years
When cash inflows are uneven, we need to calculate the cumulative net cash
flow for each period and then use the following formula:

Payback Period A B
= + C
Where,
A is the last period number with a negative cumulative cash flow;
B is the absolute value (i.e. value without negative sign) of cumulative net
cash flow at the end of the period A; and
C is the total cash inflow during the period following period A

Cumulative net cash flow is the sum of inflows to date, minus the initial
outflow.

Example 2: Uneven Cash Flows

Company C is planning to undertake another project requiring initial
investment of $50 million and is expected to generate $10 million net cash
flow in Year 1, $13 million in Year 2, $16 million in year 3, $19 million in Year
4 and $22 million in Year 5. Calculate the payback value of the project.

Solution

(cash flows in
millions)
Yea Cumulati
r Annual
ve
Cash
Cash
Flow
Flow

0 (50) (50)
1 10 (40)
2 13 (27)
 3 16 (11)
4 19 8
5 22 30

Payback Period = 3 + 11/19 = 3 + 0.58 ≈ 3.6 years

Decision Rule
The longer the payback period of a project, the higher the risk.
Between mutually exclusive projects having similar return, the decision
should be to invest in the project having the shortest payback period.

2. To estimate an unknown number that lies between two known numbers is knows
as ___________?

(a) Capital rationing

(b) Capital budgeting

(c) Interpolation

(d) Amortization
3. Decision criterion with respect to profitability index to accept project if?

(a) Profitability index is equal to or less than 1

(b) Profitability index is greater than 1

(c) Profitability index is less than or equal to 1

(d) Profitability index is greater than 10

4. ____________ of a project is the sum of all present values of all cash inflows
minus present value of outflows?

(a) Pay Back Period

(b) Internal Rate of Return

(c) Benefit Cost Ratio

(d) NPV
5. If you have to judge a project from its NPV, you will select the one with
the______________?

(a) Highest NPV

(b) Lowest NPV

(c) NPV cannot judge the project

(d) Information is not enough

6. Criteria that measures how quickly project will return its original investment is?

(a) Accounting rate of return

(b) Payback period

(c) Internal rate of return

(d) Benefit cost ratio

7. Capital budgeting is the process of identifying analyzing and selecting

investments project whose returns are expected to extend beyond
____________________?

(a) 3 years

(b) 2 years

(c) 1 year

(d) Months
8. Indifference criteria when BCR (Benefit Cost Ratio)?

(a) BCR > 1

(b) BCR = 1

(c) BCR < 1

(d) None of above

9. Criterion for IRR (Internal Rate of Return)?

(a) Accept IRR > Cost of capital

(b) Accept IRR < Cost of capital

(c) Accept IRR = Cost of capital

(d) none of the above

What Is a Hurdle Rate?

A hurdle rate is the minimum rate of return on a project or investment required by
a manager or investor.

10. Process that involves decision making with respect to investment in fixed asset?

(a) Valuation

(b) Breakeven analysis

(c) Capital budgeting

(d) Material management decision

Wrong!
1. Interest paid (earned) on only the original principal borrowed (lent) is often
referred to as?

(a) Compound interest

(b) Future value

(c) Present value

(d) Simple interest

Wrong!
2. Treasury bills are?

(a) Issued on a premium basis and pay a fixed annual interest rate

(b) Issued on a discount basis and mature at par

(c) Issued on a premium basis and mature at par

(d) Issued on a discount basis and pay a fixed annual interest rate
Wrong!
3. Nominal Interest Rate is also known as?

(a) Annual percentage rate

(b) Effective interest Rate

(c) Periodic interest rate

(d) Coupon rate

Wrong!
4. The concept of compound interest refers to?

(a) The process of gradually retiring a debt through periodic payments of principal and interest

(b) The process of servicing a debt with regular interest payments, followed lump sum payment of

principal and interest at the end of the loan term

(c) The process of converting future lump sums and annuities into present values at a stated interest rate

(d) The process of earning interest on an original amount, plus interest on interest previously earned
Wrong!
5. The value of money to be received in the future is _______the value of the same
amount of money in hand today?

(a) Higher than

(b) Lower than

(c) The same as

(d) None of the above

Wrong!
6. The Time value of money must be considered in total outlay decision because?

(a) Cash inflows and out flows occur at different point

(b) Inflation greatly reduce the outflows

(c) A dollar received in future is more value able than a dollar today

(d) Cash flows are not known with certainty

Wrong!
7. Interest paid (earned) on both the original principal borrowed (lent) and previous
interest allowed (earned) is often referred to as __________?

(a) Compound interest

(b) Double interest

(c) Simple interest

(d) Present value

Wrong!
8. Money has time value because?

(a) Individuals prefer future consumption to present consumption

(b) Money today is worth more than money tomorrow in terms of purchasing power

(c) There is a possibility of earning risk free return on money invested today

(d) B and C above

Correct!
9. The real rate of interest reflects compensation for?

(a) Present value

(b) Future value

(c) Time value of money

(d) None of above

Wrong!
10. Interest has 3 types?

(a) Fixed rate, current rate, market rate

(b) Market rate, combination rate, fixed rate

(c) Fixed rate, floating rate, current rate

(d) Fixed rate, floating rate, combination rate

Correct!
11. The basic rule of the time value of money is?

(a) Investments will always be worth more tomorrow than they are today

(b) Its always wiser to save a dollar for tomorrow than to spend it today

(c) A dollar in hand today is worth more than a dollar promised at some time in the future

(d) All of the above express an aspect of the basic rule of time value of money
Wrong!
12. A decrease in the supply for loanable funds, holding demand constant, will cause
interest rates to?

(a) Increase

(b) Decrease

(c) Stay the same

(d) Not enough information to tell

Wrong!
13. The value of money results from?

(a) Its backing

(b) Rates set by the State Bank