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

CFA Institute CFA-LEVEL-1 Online Questions & Answers

• Question 1711:

  Gulf Electric Company (GEC) uses only debt and equity in its capital structure. It can borrow unlimited amounts at an interest rate of 10 percent so long as it finances at its target capital structure, which calls for 55 percent debt and 45 percent common equity. Its last dividend was $2. 20; its expected constant growth rate is 6 percent; its stock sells on the NYSE at a price of $35; and new stock would net the company $30 per share after flotation costs. GEC's tax rate is 40 percent, and it expects to have $100 million of retained earnings this year. GEC has two projects available: Project A has a cost of $200 million and a rate of return of 13 percent, while Project B has a cost of $125 million and a rate of return of 10 percent. All of the company's potential projects are equally risky. What is GEC's cost of equity from newly issued stock?

  A. 13. 77%
  B. 13. 33%
  C. 10.00%
  D. 12. 66%
  E. 12. 29%
  A. 13. 77%

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  Explanation

  k(d) (interest rate on the firm's new debt) = 10%

  k(d)(1 - T) (after-tax-component cost of the debt) = 10%(0.6) = 6%.

  D/A = 55%; D0 = $2. 20; g = 6%; P0 = $35; PN = $35; T = 40%.

  Retained earnings = $100M; BP(RE) = $100M/ .45 = $222. 22M.

  k(s) (component cost of retained earnings) = $2. 33/$35 + 6% = 12. 66%.

  k(e) (component cost of external equity) = $2. 33/$30 + 6% = 13. 77%.

• Question 1712:

  When prices are falling, which of the following is/are true?

  I. FIFO results in higher current assets.

  II. LIFO results in higher taxes.

  III. LIFO results in higher income.

  IV.

  FIFO allows earnings manipulation through purchasing behavior.

  A. II and III
  B. II, III and IV
  C. I and IV
  D. II only
  A. II and III

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  Explanation

  When prices are falling, the units purchased later have a lower purchase price. Therefore, under the FIFO cost-flow assumption, the higher cost goods will be assumed to have been sold first. This will raise COGS, lower the ending inventory value (and therefore lower current assets), lead to lower income and hence lower income taxes compared to LIFO. However, earnings manipulation is not possible under FIFO.

• Question 1713:

  Standard IV (B.7) deals with ________.

  A. Priority of Transactions
  B. None of these answers
  C. Disclosure of Referral Fees
  D. Performance Presentation
  E. Prohibition against Misrepresentation
  F. Disclosure of Conflicts to Clients and Prospects
  G. Preservation of Confidentiality
  H. Prohibition against Use of Material Nonpublic Information
  F. Disclosure of Conflicts to Clients and Prospects

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  Explanation

  Standard IV (B.7) states that members shall disclose to their clients all matters that could become potential conflicts. These include beneficial ownership of securities or other investments, that reasonably could be expected to impair the member's ability to make unbiased and objective recommendations.

• Question 1714:

  All of the following are often characteristics of intangible assets except:

  A. they are often non-separable from a company.
  B. the value of the assets portrayed in the financial statements tends to increase for companies performing a lot of RandD.
  C. they have indefinite benefit periods.
  D. they experience large valuation changes based on competitive circumstances.
  B. the value of the assets portrayed in the financial statements tends to increase for companies performing a lot of RandD.

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  Explanation

  The value of intangible assets on the balance sheet can only increase when the assets are purchased from another company. This is to encourage conservatism on the balance sheet.

• Question 1715:

  Which of the following statements is most correct?

  A. We ideally would like to use historical measures of the component costs from prior financing in estimating the appropriate weighted average cost of capital.
  B. The cost of a new equity issuance could possibly be lower than the cost of retained earnings if the market risk premium and risk-free rate decline by a substantial amount.
  C. None of these statements.
  D. In the weighted average cost of capital calculation, we must adjust the cost of preferred stock for the tax exclusion of 70% of dividend income.
  E. All of these statements.
  C. None of these statements.

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  Explanation

  Unlike interest expense on debt, preferred dividends are not deductible, hence there are no tax savings associated with the use of preferred stock. The component costs of WACC should reflect the costs of new financing not historical measures. The cost of issuing new equity is always greater than the cost of retained earnings because of the existence of flotation costs.

• Question 1716:

  If the Central Bank wishes to diminish unemployment, it would attempt to ________ the money supply by ________ short-term interest rates.

  A. decrease, increasing
  B. stabilize, decreasing
  C. stabilize, increasing
  D. increase, decreasing
  E. increase, increasing
  F. stabilize, stabilizing
  G. decrease, decreasing
  D. increase, decreasing

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  Explanation

  The central bank would increase the money supply in an attempt to decrease unemployment. This can be accomplished by decreasing short-term rates.

• Question 1717:

  Fund A is a no-load fund but it charges a 2% redemption fee. Fund B is a 5% load fund which charges no redemption fee. Fund A is expected to have a return of 13% while fund B is expected to have a return of 17%. If your investment horizon is 1 year, which fund should you invest in and what is your expected net rate of return per year?

  A. A; 11.00%
  B. B; 10.9%
  C. A; 10.75%
  D. B; 11.15%
  D. B; 11.15%

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  Explanation

  Fund A's rate of return over 1 year equals 1.13 *0.98 - 1 = 10.74%. Fund B's return equals 0.95 * 1.17 - 1 = 11.15%. Hence, select fund B for a 1-year horizon.

• Question 1718:

  A sample of the amounts spent to heat all-electric homes of similar sizes in March revealed these amounts (to the nearest dollar): $212, $191, $176, $129, $106, $92, $108, $109, $103, $121, $175 and $194. What is the range?

  A. $130
  B. $100
  C. $120
  D. None of these answers
  E. $112
  C. $120

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  Explanation

  Range = 212 - 92 = 120

• Question 1719:

  Which of the following statements is most correct?

  A. None of the statements are correct.
  B. The discounted payback method solves all the problems associated with the payback method.
  C. The NPV method is appealing to some managers because it produces a dollar amount upon which to base decisions rather than a IRR method.
  D. All of the statements are correct.
  E. For independent projects, the decision to accept or reject will always be the same using either the IRR method or the NPV method.
  E. For independent projects, the decision to accept or reject will always be the same using either the IRR method or the NPV method.

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  Explanation

  For mutually exclusive projects, a conflict can exist if the cost of capital is less than the crossover rate.

• Question 1720:

  Which of the following is/are true about the Performance Presentation Standards?

  I. The PPS are voluntary standards and are not required by AIMR to be adopted by a member or a firm.

  II. Members need not be in compliance with the PPS to be in compliance with Standard V (B) - Performance Presentation.

  III.

  A member can claim compliance with the PPS only if he has complied with all the mandatory requirements of the PPS.

  A. II and III only
  B. I and III only
  C. I, II and III
  D. III only
  C. I, II and III

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  Explanation

  All of the answers are true of the PPS standards.