CFA Institute CFA-LEVEL-1 Online Practice Questions and Exam Preparation

CFA Institute CFA-LEVEL-1 Online Questions & Answers

• Question 1511:

  A drawback of using the price-to-book value ratio as a valuation tool is that book value:

  A. does not reflect human capital.
  B. is not appropriate for valuing firms with large, highly liquid assets.
  C. is only effective in valuing companies that are not expected to continue as a going concern.
  A. does not reflect human capital.

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  Explanation

• Question 1512:

  The Dividend Discount Model: I. is primarily used to price mature stocks.

  II. assumes constant dividends.

  III. assumes a constant dividend payout ratio.

  IV.

  works only if the growth rate is higher than the expected rate of return.

  A. II only
  B. III only
  C. I only
  D. III and IV
  E. I and IV
  F. I and II
  G. IV only
  C. I only

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  Explanation

  Dividend Discount Model assumes a constant growth in dividends but does not require the payout ratio to be constant. Also, it is applicable only when the constant growth rate is lower than the expected rate of return (It does not preclude the growth rate from exceeding the expected rate of return over some periods. However, in that case, the formula that arises from the assumption of constant growth rate cannot be used).

• Question 1513:

  Consider the following argument: "The cost of common stock should decrease as the dividend payout is increased because investors are more certain of receiving these dividends than the capital gains which are supposed to be derived from retained earnings." This statement applies best to which of the following financial theories? Choose the best answer.

  A. Tax Preference Theory
  B. Dividend Irrelevance Theory
  C. Tax Irrelevance Theory
  D. Dividend Relevance Theory
  E. Bird-in-hand Theory
  E. Bird-in-hand Theory

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  Explanation

  The Bird-in-the-Hand Theory came about as a refutation of Modigliani and Miller's Dividend Irrelevance Theory. The founders of the Bird-in-the-Hand Theory, Myron Gordon and John Lintner, stated that investors are more confident in the fact that they will receive dividends versus capital gains. So said, the cost of common stock should decrease as the payout ratio is increased. The Tax Preference Theory states that investors prefer capital gains to dividends, and this is due to the structure of tax rates. Specifically, dividends are typically taxed at a higher rate than capital gains, and are in this respect less attractive.

• Question 1514:

  Standard III (C) deals with conflicts of interest of a member with ________.

  A. other investment professionals
  B. none of these answers
  C. the client
  D. colleagues at the same firm
  E. the investing public
  B. none of these answers

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  Explanation

  Standard III (C) deals with conflicts of interest in any actions or decisions of a member with the employer. Remember, all Standards under Standard III deal with the employer.

• Question 1515:

  A random variable with a mean equal to 2. 5 and a standard deviation of 2. 0 has a coefficient of variation equal to ________.

  A. zero
  B. -2. 0
  C. 1.25
  D. none of these answers
  E. 0.8
  E. 0.8

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  Explanation

  The coefficient of variation equals the ratio of the standard deviation to the mean.

• Question 1516:

  You are examining a special group of 5 stock market indices. Of these 5, the returns were 4%, 8%, 12%, 16%, and 10%. What is the population variance of this group of stock market indices?

  A. 10%.
  B. 16%%.
  C. 10%%.
  D. 16%.
  B. 16%%.

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  Explanation

  The population variance is equal to the sum of the squared differences between each population member and the population mean, divided by the number of items in the population. In this case, wehave a mean of 10%. The first squared difference will be (4% - 10%)^2 = 0.0036. The others will be 0.0004, 0.0004, 0.0036, and 0. The sum of these squared differences is 0.008, and divided by 5, we get 0.0016 = 16%%.

• Question 1517:

  Which of the following statements is correct?

  A. Due to the way the MCC (Marginal Cost of Capital) is constructed, the first break point in the MCC schedule must be associated with using up all available retained earnings and having to issue common stock.
  B. Normally, the cost of external equity raised by issuing new common stock is above the cost of retained earnings. Moreover, the higher the growth rate is relative to the dividend yield, the more the cost of external equity will exceed the cost of retained earnings.
  C. The lower a company's tax rate, the greater the advantage of using debt in terms of lowering its WACC.
  D. Because we often need to make comparisons among firms that are in different income tax brackets, it is best to calculate the WACC (Weighted Average Cost of Capital) on a before-tax basis.
  E. If a firm has been suffering accounting losses and is expected to continue suffering such losses, and therefore its tax rate is zero. It is possible that its after-tax component cost of preferred stock as used to calculate the WACC will be less than its after-tax component cost of debt.
  E. If a firm has been suffering accounting losses and is expected to continue suffering such losses, and therefore its tax rate is zero. It is possible that its after-tax component cost of preferred stock as used to calculate the WACC will be less than its after-tax component cost of debt.

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  Explanation

  Because corporations can exclude dividends for tax purposes, preferred stock often has a market return that is less than the issuing company's cost of debt. Then, if the issuer's tax rate is zero, its component cost of preferred would be less than its cost of debt.

• Question 1518:

  Which of the following would increase GDP?

  A. Mercedes-Benz begins to produce and sell cars in Alabama.
  B. An American investor buys 100 shares of Ford stock.
  C. Ford Motor Company begins to produce and sell cars in Japan.
  D. An American investor purchases 100 shares of Mercedes-Benz stock.
  A. Mercedes-Benz begins to produce and sell cars in Alabama.

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  Explanation

  Since GDP represents the total market value of all final goods and services produced domestically during a specific period, GDP would rise if a foreign company starts to produce cars domestically.

• Question 1519:

  Depreciation expense for fixed assets is recorded

  A. for each period the asset is in use
  B. as a liability until the asset is sold
  C. at the end of each fiscal period during the asset's useful life
  D. when the asset is sold
  C. at the end of each fiscal period during the asset's useful life

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  Explanation

  Depreciation is the periodic allocation of the cost of a tangible, long-term asset over its estimated useful life, and therefore a period expense. This expense is recorded at the end of each fiscal period until the asset is fully depreciated or disposed of.

• Question 1520:

  Which of the following will most likely occur in the short run when the long-run equilibrium of an economy is disturbed by an unanticipated decrease in aggregate demand?

  A. an increase in output and a lower price level
  B. a decrease in output and a higher price level
  C. an increase in output while prices remain unchanged
  D. a decrease in output and a lower price level
  D. a decrease in output and a lower price level

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  Explanation

  In response to a decline in aggregate demand, resources may be inflexible; that is, they may not decline sufficiently to adjust to the reduction in aggregate demand. As a result, there will be a recession in which output declines and prices in other markets decline.