Test Bank for Principles of Corporate

Finance 9th Edition: Richard A. Brealey

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Chapter 01 - Finance and the Financial Manager

3. (p. 4) The following are examples of the United States-based corporations except: I) Boeing;
II) Microsoft; III) Bank of America; IV) Sony
a. I only
b. I and II only
c. I, II, and III only
D. IV only

Type: Easy

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Chapter 01 - Finance and the Financial Manager

4. (p. 4) The following are examples of foreign-based corporations except: I) British Petroleum;
II) General Electric; III) Sony; IV) Volkswagen
a. I only
B. II only
c. II and III only
d. I, II, & IV only

Type: Easy

5. (p. 4) A business that is owned and operated by an individual is called:

a. Corporation
b. Partnership
C. Sole Proprietorship
d. All of the above

Type: Easy

6. (p. 4) When the shares of a corporation are not publicly traded, then it is called a:
A. Closely held company
b. Public company
c. Sole proprietorship
d. None of the above

Type: Easy

7. (p. 4) When the shares of a corporation are publicly traded, then it is called a:
a. Closely held company
B. Public company
c. Sole proprietorship
d. None of the above

Type: Easy

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Chapter 01 - Finance and the Financial Manager

8. (p. 4) Shareholders of a corporation may be, among others: I) Individuals; II) Pension Funds;
III) Insurance Companies
a. I only
b. I and II only
c. II only
D. I, II and III

Type: Medium

9. (p. 4) Businesses can be organized as:

a. Sole proprietorships
b. Partnerships
c. Corporations
D. Any of the above

Type: Easy

10. (p. 5) Generally, a corporation is owned by the: I) Managers; II) Board of Directors; III)
Shareholders
a. I only
b. II and III
C. III only
d. I, II and III

Type: Easy

11. (p. 5) Corporations, potentially, have infinite life because:

a. It is a legal entity
B. Of separation of ownership and management
c. It has limited liability
d. None of the above

Type: Medium

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Chapter 01 - Finance and the Financial Manager

12. (p. 5) Limited liability is an important feature of:

a. Sole proprietorships
b. Partnerships
C. Corporations
d. All of the above

Type: Easy

13. (p. 5) The main disadvantage of organizing a business as a corporation in the United States
is:
a. Limited liability
b. Separation of ownership and management
C. Double taxation
d. None of the above

Type: Medium

14. (p. 5) The reason (s) that a corporation, theoretically, has infinite life is:
a. Limited liability
B. Separation of ownership and management
c. Double taxation
d. All of the above

Type: Medium

15. (p. 5) A large number of United States corporations are incorporated in: I) New York; II)
California; III) Delaware; IV) Connecticut
a. I only
b. II only
C. III only
d. IV only

Type: Easy

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Chapter 01 - Finance and the Financial Manager

16. (p. 5) As a legal entity a corporation can perform the following functions except: I) borrow
money; II) lend money; III) sue and be sued; IV) vote
a. I and II only
b. I, II, and III only
C. IV only
d. I, II, III and IV

Type: Medium

17. (p. 5) The following are examples of intangible assets except:

A. Building
b. Trademarks
c. Patents
d. Technical expertise

Type: Medium

18. (p. 5) The following are examples of tangible assets except:

a. Machinery
b. Factories
C. Trademarks
d. Offices

Type: Medium

19. (p. 6) A firm's investment decision is also called the:

a. Financing decision
b. Liquidity decision
C. Capital budgeting decision
d. None of the above

Type: Medium

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Chapter 01 - Finance and the Financial Manager

20. (p. 6) In finance, "short-term" means

a. Less than three month
b. Less than 270 days
C. Less than one year
d. Less than two years

Type: Easy

21. (p. 6) The following are examples of financial assets except:

a. Common stock
b. Bank loan
c. Preferred stock
D. Buildings

Type: Medium

22. (p. 7) The treasurer usually oversees the following functions of a corporation except: I)
Preparation of financial statements; II) Investor relationships; III) Cash management IV)
Raising new capital
A. I only
b. I and II only
c. II, III and IV only
d. III only

Type: Difficult

23. (p. 7) The following cities are also important financial centers of the world: I) New York; II)
London; III) Tokyo; IV) Bangalore
a. I and IV only
b. I and II only
C. I, II and III only
d. None of the above

Type: Easy

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Chapter 01 - Finance and the Financial Manager

24. (p. 7) The treasurer is usually responsible the following functions of a corporation: I) Tax
obligations; II) Investor relationships; III) Cash management; IV) Raising new capital
a. I only
b. I and II only
C. II, III and IV only
d. I, II, III and IV

Type: Difficult

25. (p. 7) The controller usually oversees the following functions of a corporation: I)
Preparation of financial statements; II) Internal accounting; III) Cash management and IV)
Taxes
A. I, II and IV only
b. III only
c. I and II only

Type: Difficult

26. (p. 7) The controller is usually responsible for the following functions of a corporation
except: I) Preparation of financial statements; II) Internal accounting; III) Cash management;
IV) Taxes
a. I only
B. III only
c. I and II only
d. IV only

Type: Difficult

27. (p. 7) The following are important functions of financial markets: I) Source of financing; II)
Provide liquidity; III) Reduce risk; IV) Source of information
a. I only
b. I and II only
C. I, II, III, and IV
d. IV only

Type: Medium

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Chapter 01 - Finance and the Financial Manager

28. (p. 8) The Chief Financial Officer (CFO) of a corporation oversees:

a. Treasurer's functions
b. Controller's functions
C. Both A and B
d. None of the above

Type: Easy

29. (p. 9) The following are advantages of separation of ownership and management of
corporations except:
a. Corporations can exist forever
b. Facilitate transfer of ownership without affecting the operations of the firm
c. Hire professional managers
D. Incur agency costs

Type: Medium

30. (p. 9) Conflicts of interest between shareholders and managers of a firm result in:
a. Principal-agent problem
b. Increased agency costs
C. Both A and B
d. Managers owning the firm

Type: Medium

31. (p. 9) In the principal-agent framework:

a. Shareholders are the principals
b. Managers are the principals
c. Managers are the agents
D. A and D

Type: Medium

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Chapter 01 - Finance and the Financial Manager

32. (p. 9) Costs associated with the conflicts of interest between the bondholders and the
shareholders of a corporation are called:
a. Legal costs
b. Bankruptcy costs
c. Administrative costs
D. Agency costs

Type: Difficult

33. (p. 9) Agency costs are incurred by a corporation because:

a. Managers may not attempt to maximize the value of the firm to shareholders
b. Shareholders incur monitoring cost
c. Separation of ownership and management
D. All of the above

Type: Medium

34. (p. 9) The following groups are some of the claimants to a firm's income stream: I)
Shareholders; II) Debt-holders; III) Employees; IV) Management and V) Government
a. I and II only
b. I, II, and III only
c. I, II, III and IV only
D. I, II, III, IV and V

Type: Medium

35. (p. 9) Informational asymmetry refers to the differences in information regarding the value
of a firm among, for example: I) Shareholders; II) Managers; III) Bondholders
a. I and II only
b. II and III only
c. I and III only
D. I, II and III

Type: Medium

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Chapter 01 - Finance and the Financial Manager

36. (p. 11) The financial goal of a corporation is to:

a. Maximize profits
b. Maximize sales
C. Maximize the value of the firm for the shareholders
d. Maximize managers' benefits

Type: Difficult

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Chapter 01 - Finance and the Financial Manager

True / False Questions

37. (p. 5) The board of directors is ultimately responsible for all large investment decisions.
TRUE

Type: Medium

38. (p. 5) A corporation has a legal existence of its own and is based on "articles of
incorporation."
TRUE

Type: Easy

39. (p. 5) Profits of a corporation are taxed as corporate taxes and shareholders again pay taxes
as individuals on dividends that are distributed from these profits.
TRUE

Type: Easy

40. (p. 5) Real assets of a corporation are claims on their financial assets.
FALSE

Type: Medium

41. (p. 6) Since the investment and financing decisions are analyzed separately, the financial
manager can completely ignore investors and financial markets when analyzing capital
investment projects.
FALSE

Type: Difficult

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Chapter 01 - Finance and the Financial Manager

42. (p. 7) The treasurer's responsibilities include preparation of financial statements.

FALSE

Type: Medium

43. (p. 7) In large firms, there is usually a Chief Financial Officer (CFO) who oversees both the
treasurer and controller's work.
TRUE

Type: Easy

44. (p. 7) The controller's responsibilities include banking relations and cash management.
FALSE

Type: Medium

45. (p. 8) One distinctive feature of a corporation is that there is no separation of ownership and
control.
FALSE

Type: Medium

46. (p. 9) In a sole proprietorship, the owner is also the manager, and hence, agency costs are at
a minimum.
TRUE

Type: Medium

47. (p. 9) A firm's overall value belongs entirely to the shareholders.

FALSE

Type: Medium

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Chapter 01 - Finance and the Financial Manager

48. (p. 9) Managers, Shareholders, and lenders of firm have identical information about the
value of the firm.
FALSE

Type: Medium

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Chapter 01 - Finance and the Financial Manager

Short Answer Questions

49. (p. 5) Explain the term "corporation."

A corporation is a legal entity and has an existence of its own. Generally, large businesses are
organized as corporations.

Type: Easy

50. (p. 5) Explain the main difference between a closely held company and a public company.

Closely held company's shares are not publicly traded and those of a public company are
publicly traded.

Type: Medium

51. (p. 6) Briefly explain the term limited liability.

The shareholders of a corporation cannot be held personally responsible for the debt of the
corporation. This is called limited liability. Hence a shareholder's loss is limited to the amount
he or she has invested in a corporation. This is an attractive feature for the investors.

Type: Medium

52. (p. 6) Briefly explain the advantages of a corporation as a form of business organization.

· Corporations have infinite life.

· Corporations have very many owners called shareholders and therefore corporations can
raise funds more easily than other forms of business.
· There is a separation of ownership and management that is helpful in running the
corporation on a day-to-day basis.
· It is very easy to transfer ownership in a corporation.
· Corporations have limited liability.

Type: Medium

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Chapter 01 - Finance and the Financial Manager

53. (p. 6) Briefly explain why a large number of corporations are incorporated in the state of
Delaware:

Delaware has a well-developed system of corporate law. It is very supportive of corporations.

Type: Medium

54. (p. 6) Briefly explain the sequence flow of cash between financial markets and the firm.

· Cash is raised by selling financial assets to investors.

· Cash is invested in the firm's operation and used to purchase real assets.
· Cash is generated by the firm's operations.
· Cash is reinvested or returned to investors.

Type: Medium

55. (p. 6) Briefly explain the functions of financial markets.

There are five important functions of financial markets. They are:

· A source of financing for corporations
· Provide liquidity for the investors
· Reduce risk for the investors
· Source of information
· Monitor of firms' financial performance.

Type: Medium

56. (p. 7) Briefly discuss the role of the financial managers.

Chief Financial Officer (CFO): Supervises the treasurer and the controller in a large
corporation. CFO is involved in corporate planning and financial policy. Treasurer: Is
responsible for obtaining funds, managing cash, banking relationships and investor
relationships. Controller: Is responsible for accounting functions, payroll and taxes.

Type: Medium

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Chapter 01 - Finance and the Financial Manager

57. (p. 9) Briefly explain the term "Agency costs" as related to a corporation

Agency costs arise in a corporation as a result of principal-agent problems. For example;

managers may not act in the best interests of the shareholders while making decisions. Hence
the shareholders incur monitoring costs that are called agency costs. It also arises as result of
informational asymmetry between managers and other stakeholders of a firm. Agency costs
tend to reduce the value of a firm.

Type: Medium

58. (p. 9) Briefly discuss principal - agent problems as related to a corporation

Principal-agent problems arise in a corporation as a result of the separation of ownership and

management. Managers may not act in the best interests of the shareholders while making
decisions. Hence the shareholders incur monitoring and bonding costs, which are a part of
agency costs. It also arises as result of informational asymmetry between managers and other
stakeholders of a firm. Agency costs tend to reduce the value of a firm.

Type: Medium

59. (p. 9) Briefly explain the term "web of contracts" in the context of a corporation

A corporation is a complex organization. There are many claimants to the value of a

corporation. They are shareholders, bondholders, employees, managers, suppliers, customers,
government and the community. A complex set interrelated contracts governs their
relationships. These contracts could be formal or informal. This complex set of contracts can
be thought of as "web of contracts."

Type: Medium

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Chapter 01 - Finance and the Financial Manager

60. (p. 9) Briefly explain the term "information asymmetries" in a corporation.

Managers, shareholders, and lenders of a corporation may have different information about
the value real and financial assets of a corporation. This difference in information is called
information asymmetries.

Type: Medium

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