Chapter 05 Testbank - Good Chapter 05 Testbank - Good

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Chapter 05 Testbank - good
Capital Markets and Institutions (University of New South Wales)
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Chapter 05 Testbank
Student: ___________________________________________________________________________
1. An investment decision differs from a financing decision in that:
A. investment decisions relate to assets that the firm has invested in, while financing decisions relate to the
firm's financial assets.
B. an investment decision first determines what assets the firm will invest in, while a financing decision
considers if the existing investments should be refinanced.
C. a financing decision first determines what financial assets the firm will invest in, while an investment
decision considers how the funds will be invested.
D. an investment decision first determines what assets the firm will invest in, while a financing decision
considers how the investments under consideration are to be funded.
2. When a company decides to issue an unsecured note to pay for a new machine, it has made a/an:
A. capital market decision.

B. money market decision.
C. financing decision.
D. investment decision.
3. The finance required by a company to fund its day-to-day operations is called:
A. daily financing.
B. operational financing.
C. operational capital.
D. working capital.
4. When a company decides to pay for an investment project using a short-term bank loan, this is best
described as a/an:


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5. Which of the following statements is correct for an investment proposal with a positive NPV?
A. The discount rate exceeds the required rate of return.

B. The IRR is greater than the required rate of
return.
C. Accepting the investment proposal has an uncertain effect on shareholders.
D. The present value of the cash flow equals the cost of the investment.
6. Problems associated with calculating an internal rate of return include:
A. negative cash flows during the project's lifetime.

B. choosing one project from two or more projects.
C. timing of cash flows.
D. All of the given answers.
7. When a company's project results in a return and profits which exceed the cost of its debt borrowing:
A. both the debt holders and shareholders can share in the profits.
B. only the shareholders may share in the profits.
C. the interest payments to the debt holders may increase.
D. its cost of capital increases.
8. Financial risk refers to the:
A. risk of owning financial assets.

B. overall risk of a financial services firm.
C. risk faced by the shareholders when debt is used.
D. risk of not finding finance for a firm's investment.
9. Increasing the financial leverage of a company will _______ shareholders' expected returns and ______
their risk.
A. increase; not affect

B. increase; decrease
C. increase; increase
D. decrease; increase

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10. Which of the following statements about financial risk is incorrect?
A. A rise in interest rates will adversely affect the cost of a corporation's variable debt.
B. If a corporation imports goods from overseas then an appreciation in the exchange rate will adversely
affect the company's profits.
C. If a company (A) has sold goods to another company (B) with payment due in 30 days but company B
has gone into liquidation then company A faces credit default.
D. If a company breaches its debt-to-equity ratio loan covenants the value of the company may be
adversely affected.
A. The higher the debt-to-equity ratio, the higher the degree of financial risk.
B. Interest payments on debt must be paid when they fall due.
C. When a business fails equity holders rank ahead of providers of debt due to their higher financial risk.
D. The higher the proportion of debt the higher the potential return on shareholders' funds.
12. A company's business risk depends on:
A. its use of debt in financing the business.

B. the risk of the company's operations and assets.
C. how much debt a company has used.
D. the amount of shareholder equity in the company.
13. Which of the following criteria would be determinants of the appropriate ratio of debt to equity if a
company should not take on more debt than can be serviced under conservative economic forecasts?
i. Maximisation of shareholder wealth
ii. Industry norms
iii. History of the ratio for the firm
iv. The stage of the current economic cycle
v. Limit imposed by lenders
vi. The company's capacity to service debt
A. i, iii, v, vi
B. ii, iii, v, vi
C. ii, iii, iv, v
D. iii, iv, v, vi

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14. Restrictions placed on borrowers by lenders in the loan agreement are called loan:
A. covenants.
B. limits.
C. arrangements.
D. contracts.
15. An increase in a firm's level of debt will:
A. reduce the business risk of the firm.

B. increase the variability in earnings per share.
C. lower the expected return on shareholders' funds.
D. increase the return to the debt holders.
16. Compared with retail sector companies, banks have a:
A. high equity-to-debt ratio.

B. low gearing ratio.
C. high debt-to-equity ratio.
D. conservative gearing ratio.
17. The claims of the equity holders on the assets of the firm have priority over those of:
A. the debt holders.

B. the preferred shareholders.
C. the unsecured debt holders.
D. no other holder.
18. Who are sometimes referred to as the residual owners of the corporation?
A. The secured creditors

B. The unsecured creditors
C. The common shareholders
D. The preferred shareholders
19. What is the function of a proxy statement for a shareholder?
A. It gives them the right of a vote for each share they own.
B. It gives them the right to transfer their share to another party.
C. It gives them the entitlement to new shares when issued.
D. It gives them the right to sell their shares at a premium.

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20. Which of the following statements is NOT a feature of ordinary shares?
A. Ordinary shares are a major source of external equity financing for companies.
B. Ordinary shares entail voting rights at annual general meetings.
C. Ordinary shares have no fixed payment obligation.
D. Dividends of ordinary shares are always tax deductible.
21. Generally, an initial public offering is:
A. an offer to potential investors of ordinary shares to newly list a company on a stock exchange.
B. an offer to potential investors of preference shares to newly list a company on a stock exchange.
C. an offer to potential investors of company debentures to newly list a company on a stock exchange.
D. an offer to potential investors of unsecured notes to newly list a company on a stock exchange.
22. Holders of equity capital:
A. receive interest payments.

B. own the company.
C. have lent money to the company.
D. have a guaranteed right to income from the company.
23. Common shareholders are:
A. guaranteed a periodic distribution of dividends

B. guaranteed a distribution in the wind-up of the company.
C. guaranteed both a periodic distribution of dividends and a distribution in the wind-up of the company.
D. not guaranteed a periodic distribution or a distribution in the wind-up of the company.
24. Which of the following statements best describes the role or function of the promoter of a flotation?
A. The manager of the sub-underwriting panel or group

B. The broker responsible for the initial sale of shares to investors
C. The party seeking the flotation of the company
D. The agency responsible for marketing the issue to the public

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25. Potential investors learn of the information concerning the company and its new issue by being sent a
_____ by the broker.
A. registration statement
B. prospectus
C. letter of commitment
D. memorandum
offering
26. As part of the listing process for an unlisted organisation, a document that provides detailed information on
the past and forecast performance for it is a:
A. flotation statement.
B. prospectus.
C. promotion report.
D. memorandum
offering.
27. When a company undertakes an initial public offering (IPO) it may:
A. issue and list debentures in the capital markets.

B. offer shares to a few public institutional investors.
C. issue and list shares in the primary share market.
D. directly list corporate bonds in the capital markets.
28. Compared with raising debt through a bank, the raising of equity through an IPO is generally:
A. cheaper.
B. dearer.
C. roughly the same.
D. much cheaper.
29. A financial institution involved in underwriting the sale of new securities by buying them from the issuing
firms and then reselling them to the public in the primary capital market is an:
A. investment agent.
B. investment broker.
C. investment dealer.
D. investment banker.

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30. Which of the following is NOT a role of an underwriter in a public offering of shares?
A. To provide pricing of the issue

B. To provide advice on the structure of the issue
C. To invest the funds raised in the offering
D. To provide guidance on the timing of the issue
31. If, for an IPO, circumstances change and the issue becomes unattractive, the underwriters:
A. charge the company more for raising the funds.

B. charge the company less for the IPO.
C. may purchase unsubscribed shares.
D. offer the shares at a lower price.
32. If, for an IPO, market prices have fallen, then underwriters with an out-clause that gives a level of a
specified price index that the index cannot fall below, then:
A. the underwriters have the right to charge the company more for raising the funds.
B. the underwriters need to only purchase a specified number of shares and not the total unsold.
C. the underwriters may be released from their obligations.
D. the underwriters may offer the shares at a lower price.
33. Ordinary shares in limited liability companies are the major source of external equity funding for
Australian companies. Which of the following statements regarding the issuance of ordinary shares by a
newly listed limited liability company is incorrect?
A. Shares may be issued on a fully paid or partly paid basis.

B. A holder of instalment receipts only has to pay the remaining amount when due or called.
C. Share price is determined with reference to a range of variable factors.
D. No liability company can issue shares only on a fully paid basis because of the risk.
34. Companies can raise equity capital through:
A. the money markets.

B. the inter-bank market.
C. retained earnings and the share market.
D. a major bank.

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35. A person who is authorised to vote on a shareholder's behalf is called:
A. an underwriter.
B. a proxy.
C. an authorised shareholder.
D. a substitute.
36. Which of the following statements about a no liability company is incorrect?
A. A no liability company will issue shares on a partly paid basis.

B. In Australia only mining companies can list as a no liability company.
C. A no liability company may also offer shareholders an option to sell shares back to the company if the
company exploration is not successful.
D. If a no liability gold-mining company discovers gold then for the product phase the company may issue
a further call on the partly paid shares.
37. Financing for high-risk companies is often in the form of:
A. limited liability shares.

B. no-liability shares.
C. limited instalment receipts.
D. contributing shares.
38. Which of the following requirements does NOT apply to a company seeking a public listing on the
Australian Securities Exchange (ASX)?
A. The entity must adhere to minimum standards of quality.

B. The entity must adhere to minimum standards of disclosure.
C. The company must issue a prospectus that is to be lodged with the ASX.
D. The company must have a structure and operation appropriate for a listed entity.
39. Most companies raise funds by selling their securities in a:
A. public float.
B. private placement.
C. stock exchange.
D. direct placement.

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40. A company may seek to raise further funds by issuing additional ordinary shares. The terms and conditions
of the new share issue are determined by the board of directors in consultation with its financial advisers
and others, and having regard to the preferences of existing shareholders and the needs of the company.
Which of the following is LEAST likely to be a determinant of the price that is eventually struck?
A. The discount to current market price that can be offered to shareholders.

B. The company's cash requirements.
C. The projected earnings flow from the new investments.
D. The cost of alternative funding sources.
41. Some of the main principles that form the basis of a stock exchange's listing rules are:
A. sufficient investor interest must be shown to warrant an entity's participation in the markets.
B. information must be produced according to the highest standards.
C. minimum standards of quality size, operations and disclosure must be satisfied.
D. security holders must be consulted on matters of significance except for agreements between the entity
and related parties.
42. A rights offering is the issue of:
A. proxies to the shareholders to use their voting rights at the annual general meeting.
B. options on shares to the general public.
C. an option to purchase shares directly to the shareholders.
D. special options to the management.
43. A company may raise additional equity capital through:
A. a rights issue.
B. a placement.
C. a dividend reinvestment scheme.
D. all of the given answers.
44. A right that can only be exercised by the shareholder and not sold is called a:
A. non-saleable right.
B. renounceable right.
C. non-renounceable right.
D. pro-rata right.

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45. Before making a rights issue, a company's management must consider several important variables. Which
of the following is NOT one of these variables?
A. The ability of the company to service the increased equity on issue

B. The costs of alternative funding sources
C. Whether there will be a sufficient take-up rate of the issue
D. The effect on the firm's profits
46. The subscription price in a rights offering is generally:
A. below the current share price.

B. equal to the current share price.
C. above the current share price.
D. not related to the share price.
47. Which of the following is generally NOT a characteristic of rights?
A. No expiration date
B. If exercised, results in the dilution of earnings for existing shareholders
C. Saleability
D. Potential listing on a stock exchange
48. A pro-rata share rights offer means that the offer:
A. must be made to all the stakeholders of a company.

B. must be made to bond holders and shareholders who get their offer in before a cut-off date.
C. must be made to shareholders on the basis of the number of shares already held.
D. is made only to the shareholders with the largest number of shares on the share register at a cut-off date.
49. A pro-rata share rights offer of 1:5 gives existing shareholders:
A. the right to purchase one new share for every five shares held.
B. the right to purchase five new shares for every one share held.
C. the right to purchase one share for every 1/5 shares held.
D. the right to purchase 10 shares for every five shares held.

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50. For a share placement, the Australian authority ASIC requires:
A. that a placement must consist of subscriptions of not less than $1 000 000.
B. that any discount from the current market price not be more than 10%.
C. a memorandum of information to be sent to all participating institutions.
D. a prospectus, which can be filed with them after the event.
51. For a share placement, the Australian authority ASIC or ASX listing rules require:
B. there must be no more than 20 participants.
C. the discount from market price must not be above 50 per cent.
D. that for a company that has had total placements of more than 15 per cent in the last 12 months,
agreement for another must be sought from shareholders at the annual general meeting.
52. Share placements may, subject to compliance with certain regulations, be made to institutional investors.
Which of the following conditions is NOT a requirement of the Australian authority ASIC for share
placements?
A. The placement should consist of minimum subscriptions of $500 000, or be made up of not more than
20 participants.
B. The discount from current market price should not be excessive.
C. Under no circumstances should placements be in excess of 10% of the issued shares permitted.
D. There is no need to register a prospectus, but a memorandum of information detailing the company's
activities should be sent to all participants.
53. If a company raises equity funds by issuing shares to a selected number of institutional investors, this is
known as:
A. a share appointment.
B. a placement.
C. a share rights issue.
D. share transfer.
54. Compared with a pro-rata issue of shares, placements usually:
A. take a longer time to organise.

B. can be carried out much more quickly.
C. involve a far greater discount to the current market price.
D. involve no more than 50 participants.

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55. The main advantage of placements to raise additional equity funds compared to a rights issue is:
A. the discount to current market price may be less.

B. it can be carried out much more quickly.
C. a selective placement can sell shares to friendly institutional investors.
D. it reduces the proportion of ownership by existing shareholders.
56. When a takeover company issues additional shares to fund the acquisition of the shares in a target company
this is called:
A. a seasoned share offering.

B. an equity-funded takeover.
C. an initial share takeover.
D. a rights offering.
57. Which of the following does NOT apply to a dividend reinvestment plan?
A. A dividend reinvestment plan forms additional equity financing for the company.
B. For a dividend reinvestment scheme the company typically bears the associated transaction costs.
C. Companies have encouraged shareholders to use dividend reinvestment plans.
D. Shareholders have the chance of purchasing additional shares through a dividend reinvestment plan.
58. Which of the following is NOT a feature of a dividend reinvestment scheme for a company?
A. Shareholders can acquire company shares at little or no transaction cost.

B. Shareholders can increase their return on the company share concerned.
C. The company can obtain additional equity funding.
D. The shareholders can redeem shares for dividends.
59. A dividend reinvestment plan generally _______ on the security.
A. decreases the return

B. increases the return
C. has no effect on the return
D. has an uncertain effect

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60. Dividend reinvestment schemes are a significant source of equity for many Australian companies. Which of
the following advantages of dividend reinvestment schemes may, at times, also be regarded as a
disadvantage?
A. The shareholder avoids transaction costs on the share issue.

B. The share issue price is usually at a discount to the average market price.
C. Such schemes allow dividends to be paid while retaining cash for future growth.
D. The company is able to pass on franking credit to its shareholders.
61. _______ are promised a fixed periodic dividend, the payment of which must be paid before that of ordinary
shares.
A. Common shareholders
B. Preferred shareholders
C. Stakeholders
D. Creditors
62. Any unpaid dividends that must be paid before payment of dividends to ordinary shareholders are called
_________ preference shares.
A. participating
B. cumulative
C. non-cumulative
D. secured
63. A company is likely to issue _____ if it has reached its optimal gearing level.
A. options
B. rights
C. ordinary shares
D. preference shares
64. Holders of _________ preference shares are entitled to dividend payments beyond the stated dividend rate.
A. participating
B. cumulative
C. non-cumulative
D. secured

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65. A preference share issue offers all of the following advantages to a company except:
A. a flexible dividend policy.

B. fixed interest borrowings that can count as equity.
C. extension of the equity base of the company.
D. an indefinite maturity.
66. Which of the following is NOT a feature of preference shares?
A. Convertible
B. Redeemable
C. Cumulative
D. An important source of company funding
67. Preference shares:
A. have their dividend fixed at the issue date.

B. rank behind ordinary shares in the payment of dividends.
C. rank behind ordinary shareholders in their claim on company assets in the event of liquidation.
D. rank ahead of the company creditors.
68. Preference shares have a number of features similar to debt that distinguish them from ordinary shares.
Which of the following features may be incorporated in a preference share issue?
i. Cumulative or non-cumulative
ii. Convertible or non-convertible
iii. Redeemable or non-redeemable
iv. Issued at different rankings
v. Participating or non-participating
A. i, ii, iii, iv
B. i, ii, iv, v
C. ii, iii, iv, v
D. All of the given answers
69. Convertible preference shares are normally converted into:
A. debentures.
B. bonds.
C. shares.
D. warrants.

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70. Compared with ordinary shares, preference shares usually:
A. rank ahead of a company's creditors in the case of a wind-up.

B. have dividends set at issue.
C. are viewed as debt financing.
D. pay their dividends after ordinary shares.
71. A convertible note is a/an:
A. equity instrument that converts into debt at maturity.

B. equity instrument that converts into a specified number of shares at maturity.
C. debt instrument that the holder has the option to convert into an initially specified number of shares.
D. warrant that the holder has the option to convert into an initially agreed-upon number of shares.
72. Which of the following statements is NOT a feature of convertible notes?
A. Convertible notes offer a lower interest rate than straight debt instruments.
B. Convertible notes are usually made available to ordinary shareholders.
C. Maturity of convertible notes is usually shorter than straight debt instruments.
D. Note holders can generally participate in new issues of equity.
73. Which of the following is NOT a feature of convertible notes?
A. Convertible notes are usually issued at a price close to the market price of the share.
B. The expectation of the note holder is that the share price will increase over the term of the note.
C. Convertible notes offer a higher interest rate than straight debt instruments.
D. A convertible note may be made by direct placement to shareholders.
74. An advantage of a convertible security for a company is that it can generally be sold with interest rates
_______ other non-convertible debt securities.
A. higher than
B. equal to
C. lower than
D. unrelated to

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75. The buyer of a convertible security accepts a lower rate of interest because of:
A. a lower default risk.

B. the possibility that the company may recall the security.
C. the accessibility of funds.
D. the possibility of becoming a shareholder in the future.
76. When a convertible security is issued, the issue price is usually _______ the current market price of the
company's share.
A. well below
B. close to
C. well above
D. not related to
77. Which of the following is NOT an advantage for a company that issues a convertible note?
A. A lower interest rate can be offered, compared with straight debt.

B. It offers a method of raising cheap funds for the time being.
C. A longer maturity can often be offered.
D. There is an increase in financial leverage upon conversion.
78. A company is advised to issue convertible notes. They are advised of the conditions applicable to the
convertible note issue. Which of the following conditions is incorrect?
A. The holder of the note has the right to convert the note into preference shares.
B. Notes are generally available on a pro-rata entitlement to shareholders.
C. Entitlements to convertible notes are generally not renounceable.
D. Notes are usually issued at a price close to the current share price at the time of issue.
79. Compared with straight debt, convertible notes may offer a company:
A. lower borrowing costs.

B. higher borrowing costs.
C. a chance to issue more shares at maturity.
D. the opportunity to reduce debt.

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80. When a company wants to increase the marketability of a rights issue, it may offer:
A. preference shares attached.

B. options attached.
C. convertible notes attached.
D. dividends attached.
81. When warrants are converted by a holder:
A. debt is decreased.
B. debt is decreased but equity also increases.
C. only the number of shares increases.
D. there is no impact on the company's capital structure.
82. Which of the following is NOT an advantage for a company that sells a company-issued option with a
rights issue?
A. It may add to the marketability of the associated rights issue.

B. It reduces the necessity for the company to increase dividend payments immediately.
C. If the holder of the option exercises the right to buy the shares offered then the company raises
additional equity funds.
D. There is no certainty that the future funds from the exercise of the option will eventuate.
83. Which of the following about equity warrants is NOT correct?
A. Adding equity warrants to a bond issue increases its marketability.

B. Warrants are similar to conversion features on some bonds.
C. Warrants can be detached from the bond issue and sold separately.
D. Dividends for warrants are usually lower than for ordinary shares.
84. Which financial instrument gives the holder an option to purchase a specified number of shares at a
predetermined price over a given period?
A. An equity warrant
B. A put option
C. An ordinary preference share
D. A debenture

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85. Which one of the following conditions for an equity warrant that is generally attached to a bond issue is
NOT correct?
A. The holder has a conditional option to convert into ordinary shares of a company.
B. A warrant holder receives dividend payments over the life of the warrant.
C. Warrants may be detachable and traded separately from the bond issue.
D. The cost of borrowing through a bond issue may be lower with a warrant attached.
A. If the warrant is non-detachable it can only be sold with the associated bond.
B. Equity warrants add to the marketability of a corporate bond issue.
C. Equity warrants give an investor the right to convert the warrant into shares at a specified price.
D. A warrant holder receives a dividend, unlike a rights holder.
87. Which of the following statements about company-issued equity warrants is incorrect?
A. The terms of a warrant may allow the warrant to be detachable from the bond issue.
B. A company-issued equity warrant generally attaches to a bond issue.
C. Because company-issued equity warrants are attached to a bond they have no value.
D. Warrants may lower the costs of borrowing associated with the issue of the underlying corporate bond.
88. Which of the following is NOT a similarity between a right and a warrant?
A. They both provide the right, without the obligation, to purchase a specified number of shares at a
predetermined price.
B. A right and a warrant both result in the company raising additional equity capital.
C. A right and a warrant can both be detached from the debt issue and traded separately.
D. A right and a warrant both have similar maturities.
89. Which of the following requirements does NOT apply to a company seeking a public listing on the ASX?
A. The entity must satisfy either the profit test or the net tangible assets test.
B. The company must have at least 500 holders of a parcel of main class securities valued at least $2000.
C. The company must lodge a prospectus with the ASX on an annual basis.

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90. The internal relationship between shareholders, the board of directors and the managers of a company is
called:
A. agency theory.
B. corporate governance.
C. commercial theory.
D. organisational governance.
91. A principal objective of a business organisation is the maximisation of its profits.
True False
92. The investment decision for a corporation involves the types of securities it is going to issue or invest in.
True False
93. If the calculated IRR on an investment proposal is greater than the required rate of return, the company
should proceed with the project.
True False
94. Business risk is determined in part by a corporation's choice of business activity and the manner in which it
has financed those activities.
True False
95. A low debt-to-equity ratio for a company means that a rise in interest rates will not affect the variable-rate
debt issued by the company.
True False
96. Financial risk refers to risks arising from the different types of debt securities issued by a company.
True False
97. A company's debt-to-equity ratio is determined in practice with reference to four main criteria and not by
finance theory.
True False
98. In consultation with a company, the promoter (an investment bank) will seek flotation of the company
shares.
True False

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99. Limited liability shares are generally sold to investors on a fully paid basis.
True False
100.A pro-rata offer of rights to existing shareholders must be accompanied by a prospectus.
True False
101.What is capital budgeting and explain its importance for a company.
102.Discuss relevant issues for a company that needs to decide on how to finance its investment decisions.
103.A stock exchange seeks to maintain the integrity and efficiency of its markets. Discuss some ways it may
achieve this.

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104.Discuss the attractions of a private placement for a company.
105.What is an equity-funded takeover?

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Chapter 05 Testbank Key
1. An investment decision differs from a financing decision in that:
A. investment decisions relate to assets that the firm has invested in, while financing decisions relate to
the firm's financial assets.
B. an investment decision first determines what assets the firm will invest in, while a financing decision
considers if the existing investments should be refinanced.
C. a financing decision first determines what financial assets the firm will invest in, while an investment
decision considers how the funds will be invested.
D. an investment decision first determines what assets the firm will invest in, while a financing decision
considers how the investments under consideration are to be funded.
AACSB: Communication
Bloom's: Knowledge
Difficulty: Medium
Est time: <1 minute
Learning Objective: 5.1 Understand issues related to the capital budgeting investment decision.
Section: 5.1 The investment decision: capital budgeting
2. When a company decides to issue an unsecured note to pay for a new machine, it has made a/an:

Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
3. The finance required by a company to fund its day-to-day operations is called:
A. daily financing.
B. operational financing.
C. operational capital.
D. working capital.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
Section: Introduction

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4. When a company decides to pay for an investment project using a short-term bank loan, this is best
described as a/an:

Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
5. Which of the following statements is correct for an investment proposal with a positive NPV?
A. The discount rate exceeds the required rate of return.

B. The IRR is greater than the required rate of return.
C. Accepting the investment proposal has an uncertain effect on shareholders.
D. The present value of the cash flow equals the cost of the investment.
Bloom's: Comprehension
Difficulty: Medium
Est time: <1 minute
6. Problems associated with calculating an internal rate of return include:
A. negative cash flows during the project's lifetime.

B. choosing one project from two or more projects.
C. timing of cash flows.
D. All of the given answers.
AACSB: Analytic
Difficulty: Medium
Est time: <1 minute

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7. When a company's project results in a return and profits which exceed the cost of its debt borrowing:
A. both the debt holders and shareholders can share in the profits.
B. only the shareholders may share in the profits.
C. the interest payments to the debt holders may increase.
D. its cost of capital increases.
Difficulty: Medium
Est time: <1 minute
8. Financial risk refers to the:
A. risk of owning financial assets.

B. overall risk of a financial services firm.
C. risk faced by the shareholders when debt is used.
D. risk of not finding finance for a firm's investment.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
Learning Objective: 5.2 Identify issues relevant to a corporation’s funding choice between debt and equity.
Section: 5.2 The financing decision: equity, debt and risk
9. Increasing the financial leverage of a company will _______ shareholders' expected returns and ______
their risk.
A. increase; not affect

B. increase; decrease
C. increase; increase
D. decrease; increase
Bloom's: Knowledge
Difficulty: Medium
Est time: <1 minute

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A. A rise in interest rates will adversely affect the cost of a corporation's variable debt.
B. If a corporation imports goods from overseas then an appreciation in the exchange rate will
adversely affect the company's profits.
C. If a company (A) has sold goods to another company (B) with payment due in 30 days but company
B has gone into liquidation then company A faces credit default.
D. If a company breaches its debt-to-equity ratio loan covenants the value of the company may be
adversely affected.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
A. The higher the debt-to-equity ratio, the higher the degree of financial risk.
B. Interest payments on debt must be paid when they fall due.
C. When a business fails equity holders rank ahead of providers of debt due to their higher financial
risk.
D. The higher the proportion of debt the higher the potential return on shareholders' funds.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
12. A company's business risk depends on:
A. its use of debt in financing the business.

B. the risk of the company's operations and assets.
C. how much debt a company has used.
D. the amount of shareholder equity in the company.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute

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13. Which of the following criteria would be determinants of the appropriate ratio of debt to equity if a
company should not take on more debt than can be serviced under conservative economic forecasts?
i. Maximisation of shareholder wealth
ii. Industry norms
iii. History of the ratio for the firm
iv. The stage of the current economic cycle
v. Limit imposed by lenders
vi. The company's capacity to service debt
A. i, iii, v, vi
B. ii, iii, v, vi
C. ii, iii, iv, v
D. iii, iv, v, vi
AACSB: Reflective Thinking
Bloom's: Synthesis
Difficulty: Hard
Est time: <1 minute
14. Restrictions placed on borrowers by lenders in the loan agreement are called loan:
A. covenants.
B. limits.
C. arrangements.
D. contracts.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
15. An increase in a firm's level of debt will:
A. reduce the business risk of the firm.

B. increase the variability in earnings per share.
C. lower the expected return on shareholders' funds.
D. increase the return to the debt holders.
AACSB: Diversity/Multicultural
Bloom's: Evaluation
Difficulty: Medium
Est time: <1 minute

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16. Compared with retail sector companies, banks have a:
A. high equity-to-debt ratio.

B. low gearing ratio.
C. high debt-to-equity ratio.
D. conservative gearing ratio.
Bloom's: Evaluation
Difficulty: Medium
Est time: <1 minute
17. The claims of the equity holders on the assets of the firm have priority over those of:
A. the debt holders.

B. the preferred shareholders.
C. the unsecured debt holders.
D. no other holder.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
18. Who are sometimes referred to as the residual owners of the corporation?
A. The secured creditors

B. The unsecured creditors
C. The common shareholders
D. The preferred shareholders
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
Learning Objective: 5.3 Examine the listing and flotation or initial public offering (IPO) of a business on a stock exchange, including equity-funding alternatives that
are available to a newly listed corporation.
Section: 5.3 Initial public offering
19. What is the function of a proxy statement for a shareholder?
A. It gives them the right of a vote for each share they own.
B. It gives them the right to transfer their share to another party.
C. It gives them the entitlement to new shares when issued.
D. It gives them the right to sell their shares at a premium.

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Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
20. Which of the following statements is NOT a feature of ordinary shares?
A. Ordinary shares are a major source of external equity financing for companies.
B. Ordinary shares entail voting rights at annual general meetings.
C. Ordinary shares have no fixed payment obligation.
D. Dividends of ordinary shares are always tax deductible.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
21. Generally, an initial public offering is:
A. an offer to potential investors of ordinary shares to newly list a company on a stock exchange.
B. an offer to potential investors of preference shares to newly list a company on a stock exchange.
C. an offer to potential investors of company debentures to newly list a company on a stock exchange.
D. an offer to potential investors of unsecured notes to newly list a company on a stock exchange.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
22. Holders of equity capital:
A. receive interest payments.

B. own the company.
C. have lent money to the company.
D. have a guaranteed right to income from the company.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute

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23. Common shareholders are:
A. guaranteed a periodic distribution of dividends

B. guaranteed a distribution in the wind-up of the company.
C. guaranteed both a periodic distribution of dividends and a distribution in the wind-up of the
company.
D. not guaranteed a periodic distribution or a distribution in the wind-up of the company.
Difficulty: Medium
Est time: <1 minute
24. Which of the following statements best describes the role or function of the promoter of a flotation?
A. The manager of the sub-underwriting panel or group

B. The broker responsible for the initial sale of shares to investors
C. The party seeking the flotation of the company
D. The agency responsible for marketing the issue to the public
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
25. Potential investors learn of the information concerning the company and its new issue by being sent a
_____ by the broker.
A. registration statement
B. prospectus
C. letter of commitment
D. memorandum offering
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute

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26. As part of the listing process for an unlisted organisation, a document that provides detailed information
on the past and forecast performance for it is a:
A. flotation statement.
B. prospectus.
C. promotion report.
D. memorandum offering.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
27. When a company undertakes an initial public offering (IPO) it may:
A. issue and list debentures in the capital markets.

B. offer shares to a few public institutional investors.
C. issue and list shares in the primary share market.
D. directly list corporate bonds in the capital markets.
Difficulty: Medium
Est time: <1 minute
28. Compared with raising debt through a bank, the raising of equity through an IPO is generally:
A. cheaper.
B. dearer.
C. roughly the same.
D. much cheaper.
Difficulty: Medium
Est time: <1 minute

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29. A financial institution involved in underwriting the sale of new securities by buying them from the
issuing firms and then reselling them to the public in the primary capital market is an:
A. investment agent.
B. investment broker.
C. investment dealer.
D. investment banker.
Difficulty: Easy
Est time: <1 minute
30. Which of the following is NOT a role of an underwriter in a public offering of shares?
A. To provide pricing of the issue

B. To provide advice on the structure of the issue
C. To invest the funds raised in the offering
D. To provide guidance on the timing of the issue
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
31. If, for an IPO, circumstances change and the issue becomes unattractive, the underwriters:
A. charge the company more for raising the funds.

B. charge the company less for the IPO.
C. may purchase unsubscribed shares.
D. offer the shares at a lower price.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute

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32. If, for an IPO, market prices have fallen, then underwriters with an out-clause that gives a level of a
specified price index that the index cannot fall below, then:
A. the underwriters have the right to charge the company more for raising the funds.
B. the underwriters need to only purchase a specified number of shares and not the total unsold.
C. the underwriters may be released from their obligations.
D. the underwriters may offer the shares at a lower price.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
33. Ordinary shares in limited liability companies are the major source of external equity funding for
Australian companies. Which of the following statements regarding the issuance of ordinary shares by a
newly listed limited liability company is incorrect?
A. Shares may be issued on a fully paid or partly paid basis.

B. A holder of instalment receipts only has to pay the remaining amount when due or called.
C. Share price is determined with reference to a range of variable factors.
D. No liability company can issue shares only on a fully paid basis because of the risk.
Bloom's: Knowledge
Difficulty: Hard
Est time: <1 minute
34. Companies can raise equity capital through:
A. the money markets.

B. the inter-bank market.
C. retained earnings and the share market.
D. a major bank.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute

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35. A person who is authorised to vote on a shareholder's behalf is called:
A. an underwriter.
B. a proxy.
C. an authorised shareholder.
D. a substitute.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
36. Which of the following statements about a no liability company is incorrect?
A. A no liability company will issue shares on a partly paid basis.

B. In Australia only mining companies can list as a no liability company.
C. A no liability company may also offer shareholders an option to sell shares back to the company if
the company exploration is not successful.
D. If a no liability gold-mining company discovers gold then for the product phase the company may
issue a further call on the partly paid shares.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
37. Financing for high-risk companies is often in the form of:
A. limited liability shares.

B. no-liability shares.
C. limited instalment receipts.
D. contributing shares.
Bloom's: Knowledge
Difficulty: Medium
Est time: <1 minute

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Australian Securities Exchange (ASX)?
A. The entity must adhere to minimum standards of quality.

B. The entity must adhere to minimum standards of disclosure.
C. The company must issue a prospectus that is to be lodged with the ASX.
Bloom's: Evaluation
Difficulty: Hard
Est time: <1 minute
Learning Objective: 5.4 Consider important issues associated with listing a business on a stock exchange.
Section: 5.4 Listing a business on a stock exchange
39. Most companies raise funds by selling their securities in a:
A. public float.
B. private placement.
C. stock exchange.
D. direct placement.
Difficulty: Medium
Est time: <1 minute
40. A company may seek to raise further funds by issuing additional ordinary shares. The terms and
conditions of the new share issue are determined by the board of directors in consultation with its
financial advisers and others, and having regard to the preferences of existing shareholders and the
needs of the company. Which of the following is LEAST likely to be a determinant of the price that is
eventually struck?
A. The discount to current market price that can be offered to shareholders.

B. The company's cash requirements.
C. The projected earnings flow from the new investments.
D. The cost of alternative funding sources.
Bloom's: Synthesis
Difficulty: Hard
Est time: <1 minute
Learning Objective: 5.5 Explore equity-funding alternatives that are available to an established listed corporation, including right issues, share purchase plans,
placements, takeover issues, dividend reinvestment schemes, preference shares, convertible notes and other quasi-equity securities.
Section: 5.5 Equity-funding alternatives for listed companies

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41. Some of the main principles that form the basis of a stock exchange's listing rules are:
A. sufficient investor interest must be shown to warrant an entity's participation in the markets.
B. information must be produced according to the highest standards.
C. minimum standards of quality size, operations and disclosure must be satisfied.
D. security holders must be consulted on matters of significance except for agreements between the
entity and related parties.
Difficulty: Medium
Est time: <1 minute
42. A rights offering is the issue of:
A. proxies to the shareholders to use their voting rights at the annual general meeting.
B. options on shares to the general public.
C. an option to purchase shares directly to the shareholders.
D. special options to the management.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
43. A company may raise additional equity capital through:
A. a rights issue.
B. a placement.
C. a dividend reinvestment scheme.
D. all of the given answers.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute

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44. A right that can only be exercised by the shareholder and not sold is called a:
A. non-saleable right.
B. renounceable right.
C. non-renounceable right.
D. pro-rata right.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
45. Before making a rights issue, a company's management must consider several important variables.
Which of the following is NOT one of these variables?
A. The ability of the company to service the increased equity on issue

B. The costs of alternative funding sources
C. Whether there will be a sufficient take-up rate of the issue
D. The effect on the firm's profits
Bloom's: Knowledge
Difficulty: Medium
Est time: <1 minute
46. The subscription price in a rights offering is generally:
A. below the current share price.

B. equal to the current share price.
C. above the current share price.
D. not related to the share price.
Difficulty: Medium
Est time: <1 minute

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47. Which of the following is generally NOT a characteristic of rights?
A. No expiration date
B. If exercised, results in the dilution of earnings for existing shareholders
C. Saleability
D. Potential listing on a stock exchange
Difficulty: Medium
Est time: <1 minute
48. A pro-rata share rights offer means that the offer:
A. must be made to all the stakeholders of a company.

B. must be made to bond holders and shareholders who get their offer in before a cut-off date.
C. must be made to shareholders on the basis of the number of shares already held.
D. is made only to the shareholders with the largest number of shares on the share register at a cut-off
date.
Difficulty: Medium
Est time: <1 minute
49. A pro-rata share rights offer of 1:5 gives existing shareholders:
A. the right to purchase one new share for every five shares held.
B. the right to purchase five new shares for every one share held.
C. the right to purchase one share for every 1/5 shares held.
D. the right to purchase 10 shares for every five shares held.
AACSB: Analytic
Difficulty: Medium
Est time: <1 minute

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50. For a share placement, the Australian authority ASIC requires:
B. that any discount from the current market price not be more than 10%.
C. a memorandum of information to be sent to all participating institutions.
D. a prospectus, which can be filed with them after the event.
Difficulty: Medium
Est time: <1 minute
51. For a share placement, the Australian authority ASIC or ASX listing rules require:
B. there must be no more than 20 participants.
C. the discount from market price must not be above 50 per cent.
D. that for a company that has had total placements of more than 15 per cent in the last 12 months,
agreement for another must be sought from shareholders at the annual general meeting.
Difficulty: Medium
Est time: <1 minute
52. Share placements may, subject to compliance with certain regulations, be made to institutional
investors. Which of the following conditions is NOT a requirement of the Australian authority ASIC for
share placements?
A. The placement should consist of minimum subscriptions of $500 000, or be made up of not more
than 20 participants.
B. The discount from current market price should not be excessive.
C. Under no circumstances should placements be in excess of 10% of the issued shares permitted.
D. There is no need to register a prospectus, but a memorandum of information detailing the company's
activities should be sent to all participants.
Bloom's: Evaluation
Difficulty: Hard
Est time: <1 minute

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53. If a company raises equity funds by issuing shares to a selected number of institutional investors, this is
known as:
A. a share appointment.
B. a placement.
C. a share rights issue.
D. share transfer.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
54. Compared with a pro-rata issue of shares, placements usually:
A. take a longer time to organise.

B. can be carried out much more quickly.
C. involve a far greater discount to the current market price.
D. involve no more than 50 participants.
Difficulty: Medium
Est time: <1 minute
55. The main advantage of placements to raise additional equity funds compared to a rights issue is:
A. the discount to current market price may be less.

B. it can be carried out much more quickly.
C. a selective placement can sell shares to friendly institutional investors.
D. it reduces the proportion of ownership by existing shareholders.
Difficulty: Medium
Est time: <1 minute

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56. When a takeover company issues additional shares to fund the acquisition of the shares in a target
company this is called:
A. a seasoned share offering.

B. an equity-funded takeover.
C. an initial share takeover.
D. a rights offering.
Bloom's: Synthesis
Difficulty: Medium
Est time: <1 minute
57. Which of the following does NOT apply to a dividend reinvestment plan?
A. A dividend reinvestment plan forms additional equity financing for the company.
B. For a dividend reinvestment scheme the company typically bears the associated transaction costs.
C. Companies have encouraged shareholders to use dividend reinvestment plans.
D. Shareholders have the chance of purchasing additional shares through a dividend reinvestment plan.
Difficulty: Medium
Est time: <1 minute
58. Which of the following is NOT a feature of a dividend reinvestment scheme for a company?
A. Shareholders can acquire company shares at little or no transaction cost.

B. Shareholders can increase their return on the company share concerned.
C. The company can obtain additional equity funding.
D. The shareholders can redeem shares for dividends.
Difficulty: Medium
Est time: <1 minute

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59. A dividend reinvestment plan generally _______ on the security.
A. decreases the return

B. increases the return
C. has no effect on the return
D. has an uncertain effect
Difficulty: Medium
Est time: <1 minute
60. Dividend reinvestment schemes are a significant source of equity for many Australian companies.
Which of the following advantages of dividend reinvestment schemes may, at times, also be regarded as
a disadvantage?
A. The shareholder avoids transaction costs on the share issue.

B. The share issue price is usually at a discount to the average market price.
C. Such schemes allow dividends to be paid while retaining cash for future growth.
D. The company is able to pass on franking credit to its shareholders.
Difficulty: Medium
Est time: <1 minute
61. _______ are promised a fixed periodic dividend, the payment of which must be paid before that of
ordinary shares.
A. Common shareholders
B. Preferred shareholders
C. Stakeholders
D. Creditors
Bloom's: Knowledge
Difficulty: Medium
Est time: <1 minute

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62. Any unpaid dividends that must be paid before payment of dividends to ordinary shareholders are called
_________ preference shares.
A. participating
B. cumulative
C. non-cumulative
D. secured
Difficulty: Medium
Est time: <1 minute
63. A company is likely to issue _____ if it has reached its optimal gearing level.
A. options
B. rights
C. ordinary shares
D. preference shares
Difficulty: Easy
Est time: <1 minute
64. Holders of _________ preference shares are entitled to dividend payments beyond the stated dividend
rate.
A. participating
B. cumulative
C. non-cumulative
D. secured
Difficulty: Medium
Est time: <1 minute

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65. A preference share issue offers all of the following advantages to a company except:
A. a flexible dividend policy.

B. fixed interest borrowings that can count as equity.
C. extension of the equity base of the company.
D. an indefinite maturity.
Difficulty: Medium
Est time: <1 minute
66. Which of the following is NOT a feature of preference shares?
A. Convertible
B. Redeemable
C. Cumulative
D. An important source of company funding
Difficulty: Easy
Est time: <1 minute
67. Preference shares:
A. have their dividend fixed at the issue date.

B. rank behind ordinary shares in the payment of dividends.
C. rank behind ordinary shareholders in their claim on company assets in the event of liquidation.
D. rank ahead of the company creditors.
Difficulty: Medium
Est time: <1 minute

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68. Preference shares have a number of features similar to debt that distinguish them from ordinary shares.
Which of the following features may be incorporated in a preference share issue?
i. Cumulative or non-cumulative
ii. Convertible or non-convertible
iii. Redeemable or non-redeemable
iv. Issued at different rankings
v. Participating or non-participating
A. i, ii, iii, iv
B. i, ii, iv, v
C. ii, iii, iv, v
D. All of the given answers
Difficulty: Medium
Est time: <1 minute
69. Convertible preference shares are normally converted into:
A. debentures.
B. bonds.
C. shares.
D. warrants.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
70. Compared with ordinary shares, preference shares usually:
A. rank ahead of a company's creditors in the case of a wind-up.

B. have dividends set at issue.
C. are viewed as debt financing.
D. pay their dividends after ordinary shares.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute

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71. A convertible note is a/an:
A. equity instrument that converts into debt at maturity.

B. equity instrument that converts into a specified number of shares at maturity.
C. debt instrument that the holder has the option to convert into an initially specified number of shares.
D. warrant that the holder has the option to convert into an initially agreed-upon number of shares.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
72. Which of the following statements is NOT a feature of convertible notes?
A. Convertible notes offer a lower interest rate than straight debt instruments.
B. Convertible notes are usually made available to ordinary shareholders.
C. Maturity of convertible notes is usually shorter than straight debt instruments.
D. Note holders can generally participate in new issues of equity.
Difficulty: Medium
Est time: <1 minute
73. Which of the following is NOT a feature of convertible notes?
A. Convertible notes are usually issued at a price close to the market price of the share.
B. The expectation of the note holder is that the share price will increase over the term of the note.
C. Convertible notes offer a higher interest rate than straight debt instruments.
D. A convertible note may be made by direct placement to shareholders.
Difficulty: Medium
Est time: <1 minute

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74. An advantage of a convertible security for a company is that it can generally be sold with interest rates
_______ other non-convertible debt securities.
A. higher than
B. equal to
C. lower than
D. unrelated to
Difficulty: Medium
Est time: <1 minute
75. The buyer of a convertible security accepts a lower rate of interest because of:
A. a lower default risk.

B. the possibility that the company may recall the security.
C. the accessibility of funds.
D. the possibility of becoming a shareholder in the future.
Difficulty: Medium
Est time: <1 minute
76. When a convertible security is issued, the issue price is usually _______ the current market price of the
company's share.
A. well below
B. close to
C. well above
D. not related to
Difficulty: Medium
Est time: <1 minute

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77. Which of the following is NOT an advantage for a company that issues a convertible note?
A. A lower interest rate can be offered, compared with straight debt.

B. It offers a method of raising cheap funds for the time being.
C. A longer maturity can often be offered.
D. There is an increase in financial leverage upon conversion.
Bloom's: Synthesis
Difficulty: Hard
Est time: <1 minute
78. A company is advised to issue convertible notes. They are advised of the conditions applicable to the
convertible note issue. Which of the following conditions is incorrect?
A. The holder of the note has the right to convert the note into preference shares.
B. Notes are generally available on a pro-rata entitlement to shareholders.
C. Entitlements to convertible notes are generally not renounceable.
D. Notes are usually issued at a price close to the current share price at the time of issue.
Bloom's: Evaluation
Difficulty: Medium
Est time: <1 minute
79. Compared with straight debt, convertible notes may offer a company:
A. lower borrowing costs.

B. higher borrowing costs.
C. a chance to issue more shares at maturity.
D. the opportunity to reduce debt.
Bloom's: Evaluation
Difficulty: Medium
Est time: <1 minute

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80. When a company wants to increase the marketability of a rights issue, it may offer:
A. preference shares attached.

B. options attached.
C. convertible notes attached.
D. dividends attached.
Difficulty: Medium
Est time: <1 minute
81. When warrants are converted by a holder:
A. debt is decreased.
B. debt is decreased but equity also increases.
C. only the number of shares increases.
D. there is no impact on the company's capital structure.
Bloom's: Synthesis
Difficulty: Hard
Est time: <1 minute
82. Which of the following is NOT an advantage for a company that sells a company-issued option with a
rights issue?
A. It may add to the marketability of the associated rights issue.

B. It reduces the necessity for the company to increase dividend payments immediately.
C. If the holder of the option exercises the right to buy the shares offered then the company raises
additional equity funds.
D. There is no certainty that the future funds from the exercise of the option will eventuate.
Difficulty: Medium
Est time: <1 minute

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A. Adding equity warrants to a bond issue increases its marketability.

B. Warrants are similar to conversion features on some bonds.
C. Warrants can be detached from the bond issue and sold separately.
D. Dividends for warrants are usually lower than for ordinary shares.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
84. Which financial instrument gives the holder an option to purchase a specified number of shares at a
predetermined price over a given period?
A. An equity warrant
B. A put option
C. An ordinary preference share
D. A debenture
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
85. Which one of the following conditions for an equity warrant that is generally attached to a bond issue is
NOT correct?
A. The holder has a conditional option to convert into ordinary shares of a company.
B. A warrant holder receives dividend payments over the life of the warrant.
C. Warrants may be detachable and traded separately from the bond issue.
D. The cost of borrowing through a bond issue may be lower with a warrant attached.
Bloom's: Synthesis
Difficulty: Hard
Est time: <1 minute

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A. If the warrant is non-detachable it can only be sold with the associated bond.
B. Equity warrants add to the marketability of a corporate bond issue.
C. Equity warrants give an investor the right to convert the warrant into shares at a specified price.
D. A warrant holder receives a dividend, unlike a rights holder.
Difficulty: Medium
Est time: <1 minute
87. Which of the following statements about company-issued equity warrants is incorrect?
A. The terms of a warrant may allow the warrant to be detachable from the bond issue.
B. A company-issued equity warrant generally attaches to a bond issue.
C. Because company-issued equity warrants are attached to a bond they have no value.
D. Warrants may lower the costs of borrowing associated with the issue of the underlying corporate
bond.
Difficulty: Medium
Est time: <1 minute
88. Which of the following is NOT a similarity between a right and a warrant?
A. They both provide the right, without the obligation, to purchase a specified number of shares at a
predetermined price.
B. A right and a warrant both result in the company raising additional equity capital.
C. A right and a warrant can both be detached from the debt issue and traded separately.
D. A right and a warrant both have similar maturities.
Difficulty: Medium
Est time: <1 minute

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ASX?
A. The entity must satisfy either the profit test or the net tangible assets test.
B. The company must have at least 500 holders of a parcel of main class securities valued at least
$2000.
C. The company must lodge a prospectus with the ASX on an annual basis.
Difficulty: Hard
Est time: <1 minute
Learning Objective: 5.6 Explain the listing requirements of the Australian Securities Exchange.
Section: Extended learning
90. The internal relationship between shareholders, the board of directors and the managers of a company is
called:
A. agency theory.
B. corporate governance.
C. commercial theory.
D. organisational governance.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
91. A principal objective of a business organisation is the maximisation of its profits.
FALSE
A principal objective is the maximisation of shareholder value within the context of the company's
objectives and policies.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute

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92. The investment decision for a corporation involves the types of securities it is going to issue or invest
in.
FALSE
The investment decision is the capital budgeting decision that determines the strategic activities of the
firm and what assets it needs to acquire so it can carry out its business.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
93. If the calculated IRR on an investment proposal is greater than the required rate of return, the company
should proceed with the project.
TRUE
The IRR provides an actual rate of return that can be measured against a company's required rate of
return.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
94. Business risk is determined in part by a corporation's choice of business activity and the manner in
which it has financed those activities.
FALSE
Business risk represents a company's exposure to factors that have an impact on the firm's activities and
operations but it does not include the manner in which it finances its activities.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute

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95. A low debt-to-equity ratio for a company means that a rise in interest rates will not affect the variable-
rate debt issued by the company.
FALSE
As the debt has a variable interest rate it will be affected by an increase in interest rates.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
96. Financial risk refers to risks arising from the different types of debt securities issued by a company.
FALSE
Financial risk attaches to both equity and debt issued by a company.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
97. A company's debt-to-equity ratio is determined in practice with reference to four main criteria and not
by finance theory.
TRUE
Four main criteria are norms in the industry, history of the gearing ratio, limits imposed by lenders and
management decisions.
Difficulty: Easy
Est time: <1 minute
98. In consultation with a company, the promoter (an investment bank) will seek flotation of the company
shares.
FALSE
The promoter is the company seeking to issue new shares.
Bloom's: Knowledge
Difficulty: Easy

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Est time: <1 minute

99. Limited liability shares are generally sold to investors on a fully paid basis.
TRUE
Ordinary shares issued on a limited liability basis are the principal form of funding.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
100. A pro-rata offer of rights to existing shareholders must be accompanied by a prospectus.
TRUE
Generally, regulations require a prospectus to be attached.
Bloom's: Knowledge
Difficulty: Easy
Est time: <1 minute
101. What is capital budgeting and explain its importance for a company.
Capital budgeting is the process of evaluating and selecting long-term investments consistent with the
firms' goal of owner-wealth maximisation. A company needs to determine what assets it needs to invest
in so it may carry out its planned business operations. Two important quantitative measures it may use
are net present value and internal rate of return.
Bloom's: Knowledge
Est time: 1-3 minutes

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102. Discuss relevant issues for a company that needs to decide on how to finance its investment decisions.
The financing decision relates to the question of how a business investment is to be funded. There is the
choice of debt or equity and what kind of risk this exposes the firm to. These generally entail business
risk and financial risk.
Bloom's: Knowledge
103. A stock exchange seeks to maintain the integrity and efficiency of its markets. Discuss some ways it
may achieve this.
A stock exchange needs to establish listing rule principles that include the interests of listed companies,
combined with investor protection. With regard to the stock exchange, some main principles are
minimum standards of quality and size, securities issued in a fair manner, timely release of information,
high standards of integrity and accountability of entities and officers, and practices adopted and pursued
that protect the interests of security holders.
AACSB: Ethical
104. Discuss the attractions of a private placement for a company.
There are a number of advantages—a placement can be arranged more quickly than a rights issue; it
may also involve less of a discount to current market value than a rights issue and so be less expensive.
A placement may also be made directly with institutions without the need to lodge a prospectus but
rather a less comprehensive and less costly memorandum of information.


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105. What is an equity-funded takeover?
In the case of a merger or acquisition, a company may decide to issue additional shares to fund a full-
equity takeover rather than using other sources of funding such as debt. A company (A) may offer these
shares on a pro-rata basis to existing shareholders in the takeover target, company (B). The target
shareholders may be offered two shares in company A for every five shares they hold in company B.
The pro-rata basis of the offer will be based on the value of company A shares compared to that of
company B.

Bloom's: Synthesis

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Chapter 05 Testbank Summary
Category # of Qu
estions
AACSB: Analytic 2
AACSB: Communication 75
AACSB: Diversity/Multicultural 5
AACSB: Ethical 1
AACSB: Reflective Thinking 22
Bloom's: Comprehension 42
Bloom's: Evaluation 6
Bloom's: Knowledge 50
Bloom's: Synthesis 7
Difficulty: Easy 46
Difficulty: Hard 9
Difficulty: Medium 45
Est time: <1 minute 100
Est time: 1-3 minutes 5
Learning Objective: 5.1 Understand issues related to the capital budgeting investment decision. 16
Learning Objective: 5.2 Identify issues relevant to a corporation’s funding choice between debt and equity. 10
Learning Objective: 5.3 Examine the listing and flotation or initial public offering (IPO) of a business on a stock exchange, including equit 22
y-funding alternatives that are available to a newly listed corporation.
Learning Objective: 5.4 Consider important issues associated with listing a business on a stock exchange. 3
Learning Objective: 5.5 Explore equity-funding alternatives that are available to an established listed corporation, including right issues, sh 51
are purchase plans, placements, takeover issues, dividend reinvestment schemes, preference shares, convertible notes and other quasi-
equity securities.
Learning Objective: 5.6 Explain the listing requirements of the Australian Securities Exchange. 3
Section: 5.1 The investment decision: capital budgeting 15
Section: 5.2 The financing decision: equity, debt and risk 10
Section: 5.3 Initial public offering 22
Section: 5.4 Listing a business on a stock exchange 3
Section: 5.5 Equity-funding alternatives for listed companies 51
Section: Extended learning 3
Section: Introduction 1

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Capital Markets and Institutions (University of New South Wales)

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1. An investment decision differs from a financing decision in that:

A. capital market decision.

3. The finance required by a company to fund its day-to-day operations is called:

A. capital market decision.

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A. The discount rate exceeds the required rate of return.

6. Problems associated with calculating an internal rate of return include:

A. negative cash flows during the project's lifetime.

8. Financial risk refers to the:

A. risk of owning financial assets.

A. increase; not affect

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10. Which of the following statements about financial risk is incorrect?

11. Which of the following statements about financial risk is incorrect?

12. A company's business risk depends on:

A. its use of debt in financing the business.

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15. An increase in a firm's level of debt will:

A. reduce the business risk of the firm.

16. Compared with retail sector companies, banks have a:

A. high equity-to-debt ratio.

A. the debt holders.

A. The secured creditors

19. What is the function of a proxy statement for a shareholder?

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20. Which of the following statements is NOT a feature of ordinary shares?

21. Generally, an initial public offering is:

22. Holders of equity capital:

A. receive interest payments.

23. Common shareholders are:

A. guaranteed a periodic distribution of dividends

A. The manager of the sub-underwriting panel or group

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27. When a company undertakes an initial public offering (IPO) it may:

A. issue and list debentures in the capital markets.

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A. To provide pricing of the issue

A. charge the company more for raising the funds.

A. Shares may be issued on a fully paid or partly paid basis.

34. Companies can raise equity capital through:

A. the money markets.

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35. A person who is authorised to vote on a shareholder's behalf is called:

36. Which of the following statements about a no liability company is incorrect?

A. A no liability company will issue shares on a partly paid basis.

37. Financing for high-risk companies is often in the form of:

A. limited liability shares.

A. The entity must adhere to minimum standards of quality.

39. Most companies raise funds by selling their securities in a:

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A. The discount to current market price that can be offered to shareholders.

42. A rights offering is the issue of:

43. A company may raise additional equity capital through:

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A. The ability of the company to service the increased equity on issue