Question 1

After purchasing fire insurance,a firm decides to cut costs by reducing spending on fire prevention.This is an example of

Accepted Answer

A)  adverse selection. 
B)  moral hazard. 
C)  the insurance dilemma. 
D)  actuarial fairness. 
E)  insurance risk. 
A)  adverse selection. 
B)  moral hazard. 
C)  the insurance dilemma. 
D)  actuarial fairness. 
E)  insurance risk.

Question 2

When a firm can pass on its cost increases to its customers and revenue decreases to its suppliers,it has a ________ hedge.

Accepted Answer

A)  natural 
B)  basis 
C)  vertical 
D)  horizontal 
E)  hidden 
A)  natural 
B)  basis 
C)  vertical 
D)  horizontal 
E)  hidden

Question 3

A company has a current tax rate of 35% and faces a 10% chance that the its output prices will drop and it will lose 200,000 over the next year.The firm would then be in a 15% tax bracket if it faces a loss.Compute the net present value (NPV)from purchasing insurance if the rate of interest is 5% and the beta of the output prices is 0.

Accepted Answer

A)  $2932 
B)  $3178 
C)  $3312 
D)  $3810 
E)  $2761 
A)  $2932 
B)  $3178 
C)  $3312 
D)  $3810 
E)  $2761

Question 4

A firm can borrow at a floating rate of LIBOR + 1% on short-term loans.If it swaps its short-term payments so that it receives LIBOR + 2% and pays a fixed rate of 3%,what is the rate of interest on its borrowing?

Accepted Answer

A)  5% 
B)  4% 
C)  6% 
D)  2% 
E)  3% 
A)  5% 
B)  4% 
C)  6% 
D)  2% 
E)  3%

Question 5

Insurance that compensates for the loss or unavoidable absence of crucial employees in the firm is called

Accepted Answer

A)  key personnel insurance. 
B)  business liability insurance. 
C)  property insurance. 
D)  business interruption insurance. 
E)  damage insurance. 
A)  key personnel insurance. 
B)  business liability insurance. 
C)  property insurance. 
D)  business interruption insurance. 
E)  damage insurance.

Question 6

A(n)________ is only used to calculate coupon payments on a swap but is never actually paid.

Accepted Answer

A)  standard loan 
B)  floating loan 
C)  amortization 
D)  notional principal 
E)  swap valuator 
A)  standard loan 
B)  floating loan 
C)  amortization 
D)  notional principal 
E)  swap valuator

Question 7

When firms use futures contracts for hedging,cash flows are received and paid daily rather than waiting until the end of the contract through a procedure called

Accepted Answer

A)  cash flow hedging. 
B)  marking to market. 
C)  swaps. 
D)  put-call parity. 
E)  daily settlement. 
A)  cash flow hedging. 
B)  marking to market. 
C)  swaps. 
D)  put-call parity. 
E)  daily settlement.

Question 8

The risk of fire at a car assembly plant is 0.2%.If the firm will receive a payment of $30 million in one year if there is a fire during the year,what is the net present value (NPV)of purchasing insurance if the firm will face financial distress costs of $5 million and issuance costs of $1 million in the event of a loss if the risk-free rate is 5%?

Accepted Answer

A)  $11,429 
B)  $12,367 
C)  $12,967 
D)  $13,673 
E)  $14,356 
A)  $11,429 
B)  $12,367 
C)  $12,967 
D)  $13,673 
E)  $14,356

Question 9

An operator of an oil well has a 0.5% chance of experiencing a catastrophic failure.This failure will cost the operator $500 million.If the risk-free rate is 2%,the expected return on the market is 8%,and the beta of the risk is 0,what is the actuarially fair insurance premium?

Accepted Answer

A)  $2,450,980 
B)  $2,500,000 
C)  $2,550,000 
D)  $2,314,815 
E)  $2,715,225 
A)  $2,450,980 
B)  $2,500,000 
C)  $2,550,000 
D)  $2,314,815 
E)  $2,715,225

Question 10

What is business interruption insurance?

Accepted Answer

Business interruption insuranc

Question 11

What is the purpose of a deductible?

Accepted Answer

The purpose of a deductible is to reduce

Question 12

Insurance for large risks that cannot be well diversified has a(n)________,which increases its cost.

Accepted Answer

A)  positive beta 
B)  moral hazard clause 
C)  negative beta 
D)  actuarially-biased risk 
E)  zero beta 
A)  positive beta 
B)  moral hazard clause 
C)  negative beta 
D)  actuarially-biased risk 
E)  zero beta

Question 13

Futures contracts minimize default risk by requiring traders to post collateral called ________ when buying or selling commodities using futures contracts.

Accepted Answer

A)  down payment 
B)  marked to market 
C)  margin 
D)  commission 
E)  deposit 
A)  down payment 
B)  marked to market 
C)  margin 
D)  commission 
E)  deposit

Question 14

One of the drawbacks of using futures contracts to hedge is that managers in a firm may use the futures contracts to ________ and consequently increase the firm's risk rather than reducing it.

Accepted Answer

A)  hedge 
B)  produce 
C)  speculate 
D)  increase managerial compensation 
E)  expand 
A)  hedge 
B)  produce 
C)  speculate 
D)  increase managerial compensation 
E)  expand

Question 15

Vertical integration can increase firm value only if a merger provides gains from ________ and cost savings.

Accepted Answer

A)  synergies 
B)  debt repayments 
C)  equity swaps 
D)  shareholders 
E)  bondholders 
A)  synergies 
B)  debt repayments 
C)  equity swaps 
D)  shareholders 
E)  bondholders

Question 16

A firm can borrow at a fixed rate of 6.5% on long-term loans.If it swaps its long-term payments so that it receives 4% and pays a floating rate of LIBOR,what is the rate of interest on its borrowing?

Accepted Answer

A)  LIBOR + 2.5% 
B)  LIBOR 
C)  LIBOR + 6.5% 
D)  LIBOR - 2.5% 
E)  LIBOR - 4% 
A)  LIBOR + 2.5% 
B)  LIBOR 
C)  LIBOR + 6.5% 
D)  LIBOR - 2.5% 
E)  LIBOR - 4%

Question 17

The value of insurance comes from its ability to reduce the cost of ________ for the firm.

Accepted Answer

A)  adverse selection 
B)  vertical integration 
C)  fraud 
D)  market imperfections 
E)  capital 
A)  adverse selection 
B)  vertical integration 
C)  fraud 
D)  market imperfections 
E)  capital

Question 18

Suppose oil futures prices are as given in the above table (price per barrel).Suppose you buy 100 crude oil futures contracts,each for 1000 barrels of crude oil,at the current futures price of $108 per barrel on day 0.What is your cumulative profit/loss in your margin account by the end of day 5?

Accepted Answer

A)  -$200,000 
B)  $200,000 
C)  $100,000 
D)  -$100,000 
E)  $0 
A)  -$200,000 
B)  $200,000 
C)  $100,000 
D)  -$100,000 
E)  $0

Question 19

A company has a current tax rate of 30% and faces a 20% chance that the its output prices will drop and it will lose $100,000 over the next year.The firm would then be in a 15% tax bracket if it faces a loss.Compute the net present value (NPV)from purchasing insurance if the rate of interest is 5% and the beta of the output prices is 0.

Accepted Answer

A)  $2,857 
B)  $2,189 
C)  $2,357 
D)  $2,591 
E)  $2,062 
A)  $2,857 
B)  $2,189 
C)  $2,357 
D)  $2,591 
E)  $2,062

Question 20

What are some of the disadvantages of long-term supply contracts?

Accepted Answer

Such contracts have several potential di

Exam 21: Risk Management

After purchasing fire insurance,a firm decides to cut costs by reducing spending on fire prevention.This is an example of

When a firm can pass on its cost increases to its customers and revenue decreases to its suppliers,it has a ________ hedge.

A firm can borrow at a floating rate of LIBOR + 1% on short-term loans.If it swaps its short-term payments so that it receives LIBOR + 2% and pays a fixed rate of 3%,what is the rate of interest on its borrowing?

Insurance that compensates for the loss or unavoidable absence of crucial employees in the firm is called

A(n)________ is only used to calculate coupon payments on a swap but is never actually paid.

When firms use futures contracts for hedging,cash flows are received and paid daily rather than waiting until the end of the contract through a procedure called

An operator of an oil well has a 0.5% chance of experiencing a catastrophic failure.This failure will cost the operator $500 million.If the risk-free rate is 2%,the expected return on the market is 8%,and the beta of the risk is 0,what is the actuarially fair insurance premium?

What is business interruption insurance?

What is the purpose of a deductible?

Insurance for large risks that cannot be well diversified has a(n)________,which increases its cost.

Futures contracts minimize default risk by requiring traders to post collateral called ________ when buying or selling commodities using futures contracts.

One of the drawbacks of using futures contracts to hedge is that managers in a firm may use the futures contracts to ________ and consequently increase the firm's risk rather than reducing it.

Vertical integration can increase firm value only if a merger provides gains from ________ and cost savings.

A firm can borrow at a fixed rate of 6.5% on long-term loans.If it swaps its long-term payments so that it receives 4% and pays a floating rate of LIBOR,what is the rate of interest on its borrowing?

The value of insurance comes from its ability to reduce the cost of ________ for the firm.

Suppose oil futures prices are as given in the above table (price per barrel).Suppose you buy 100 crude oil futures contracts,each for 1000 barrels of crude oil,at the current futures price of $108 per barrel on day 0.What is your cumulative profit/loss in your margin account by the end of day 5?

What are some of the disadvantages of long-term supply contracts?

Corporate Finance and the Financial Manager

Introduction to Financial Statement Analysis

The Valuation Principle: the Foundation of Financial Decision Making

The Time Value of Money

Interest Rates

Bonds

Valuing Stocks

Investment Decision Rules

Fundamentals of Capital Budgeting

Risk and Return in Capital Markets

Systematic Risk and the Equity Risk Premium

Determining the Cost of Capital

Risk and the Pricing of Options

Raising Equity Capital

Debt Financing

Capital Structure

Payout Policy

Financial Modelling and Pro Forma Analysis

Working Capital Management

Short Term Financial Planning

International Corporate Finance

Leasing

Mergers and Acquisitions

Corporate Governance

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