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

CFA Institute CFA-LEVEL-1 Online Questions & Answers

• Question 1751:

  A decrease in a firm's willingness to pay dividends is likely to result from an increase in its ________.

  A. collection of accounts receivable
  B. earnings stability
  C. access to capital markets
  D. stock price
  E. profitable investment opportunities
  E. profitable investment opportunities

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  Explanation

  Two points must be kept in mind when deciding how much cash should be distributed to stockholders:

  1. The main objective is to maximize shareholder value.

  2. The cash flows generated by the firm belong to its shareholders.

  The optimal payout ratio is a function of 4 factors:

  1. Investors' preferences for dividends versus capital gains.

  2. The firm's investment opportunities.

  3. The firm's target capital structure.

  4. The availability and cost of external capital.

  The last 3 steps are combined in the residual dividend model, which is a model in which the dividend paid is set equal to the actual earnings minus the amount of retained earnings necessary to finance the firm's optimal capital budget.

• Question 1752:

  The price/cash flow ratio is used to supplement the P/E ratio in company analysis because:

  I. A firm's cash flow is typically subject to less accounting manipulation than reported earnings,

  II. Cash flow has become an important measure of performance, value and financial strength because numerous academic studies have shown that various cash flow measures can be used to predict both success and future problems

  III. Under theoretically ideal conditions, the market value of a firm should reflect its book value

  IV.

  Cash flow data have become more accessible

  V.

  It is easier to compute

  A. II, III IV
  B. II, IV, V
  C. All of these answers
  D. I, II, III
  E. I, II, IV
  E. I, II, IV

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  Explanation

  Developing benchmark values for these ratios is important because, similar to P/Es and P/BV ratios, they are relative measures of value.

• Question 1753:

  George Judas, CFA, manages a small capitalization mutual fund. Judas only invests in companies with low price to earnings ratios. Judas states that research suggests that returns on both small capitalization and low P/E companies are

  anomalous, in that they will provide investors with superior risk-adjusted long-term returns. Judas' supervisor counters with the following two observations. Observation 1:The research does not adequately account for the level of risk of small

  capitalization and low price to earnings ratio companies. Observation 2:The research on small capitalization and low price to earnings ratio companies suffers from a small sample bias.

  Are the supervisor's observations most likely correct?

  A. Yes.
  B. Only Observation 1 is correct.
  C. Only Observation 2 is correct.
  B. Only Observation 1 is correct.

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  Explanation

• Question 1754:

  Standard III (E) - Responsibilities of Supervisors points out that when violations do occur, ________ procedures may be inadequate.

  A. compliance
  B. none of these answers
  C. legal
  D. fiduciary duty
  A. compliance

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  Explanation

  If a member has adopted reasonable procedures and taken steps to institute an effective compliance program, then the member may not be in violation of Standard III (E). The fact that violations do occur may indicate, however, that the compliance procedures are inadequate. Furthermore, a member may be in violation of Standard III (E) if he or she knows that the procedures designed to detect and prevent violations are not being followed.

• Question 1755:

  If an analyst is trying to estimate the value of a stock, using the formula E(Y | E) = [y_1 * P(y_1 |E) + y_2 * P(y_2|E) + ... y_n * P(y_n|E), the analyst is making use of:

  A. subjective probability.
  B. the multiplication rule for independent events.
  C. unconditional expectation.
  D. conditional expectation.
  D. conditional expectation.

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  Explanation

  Since the stock value is conditioned on an uncertain event and the likelihood of certain stock price outcomes given the occurrence of that uncertain event, the analyst is using conditional expectation. The expected value is conditioned upon the occurrence of the event.

• Question 1756:

  A firm currently has 3 million dollars worth of 6% debt outstanding. It can currently borrow in the capital markets at the rate of 7. 2%. The firm faces a 40% tax rate. Its marginal after-tax cost of debt is about: A. 7. 2%

  B. 6%

  C. 3. 6%

  D. 4. 3%

  Correct Answer. D
  D

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  Explanation

  Since debt interest is tax-deductible, the after-tax cost of debt equals 7. 2%*(1-40%) = 4. 32%. Note that bonds issued in the past are of no relevance since it is the current cost of borrowing that is of concern.

• Question 1757:

  If the 1% level of significance is used and the computed value of z is +6. 00, what is our decision?

  A. Do not reject Ho
  B. None of these answers
  C. Reject Ho
  D. This cannot be answered
  C. Reject Ho

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  Explanation

  This falls beyond the critical value of 1.645. Therefore it falls in the rejection region.

• Question 1758:

  To test whether small-cap stocks perform worse than large stocks under the Fama-French three-factor model, you set up the following hypothesis:

  Ho: Expected excess returns of small stocks = 0

  H1: Expected excess returns of small stocks < 0

  The excess returns are returns adjusted for risk using the Fama-French three-factor model. In this setup, which of the following is/are true?

  I. You must employ a right-tailed test.

  II. The rejection region for the z-statistic on the excess return extends from negative infinity to the critical value associated with the significance level.

  III.

  It is harder to reject the null than in the case where the alternative is specified as H1: Excess returns are non-zero.

  A. II only
  B. I and III
  C. II and III
  D. none of these answers
  E. I only
  A. II only

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  Explanation

  Since the rejection region for the null is to the left of the maintained null value of zero, you must employ a left-tailed test. In that case, the rejection region for the z-statistic on the excess return extends from negative infinity to the critical value associated with the significance level. Also note that it is harder to reject the null under a two-tailed test than under a one-tailed test since the critical value for any given significance level is higher (in magnitude) for a two-tailed test.

• Question 1759:

  Assume a student received the following grades for the semester: History, B; Statistics, A; Spanish, C; and English, C. History and English are 5 credit hour courses, Statistics a 4 credit hour course and Spanish a 3 credit hour course. If 4 grade points are assigned for an A, 3 for a B and 2 for a C, what is the weighted mean for the semester grade?

  A. 1.96
  B. 2. 88
  C. 4. 00
  D. 2. 76
  E. 3. 01
  D. 2. 76

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  Explanation

  The student has taken 17 credit hours. The weighted grades for each are: History:5*3 = 15. English: 5*2 = 10. Statistics: 4*4 = 16. Spanish: 3*2 = 6. Adding we have 15 + 10 + 16 + 6 = 47. Mean = 47/17 = 2. 76

• Question 1760:

  Suppose the average stock price in the above example were 40. How many shares will be used in the calculation of Diluted EPS now?

  A. none of these answers
  B. 1,250,000
  C. 1,208,333
  D. 1,300,000
  C. 1,208,333

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  Explanation

  Since the average stock price now exceeds the strike price, the warrants are assumed converted. The proceeds from the exercise equal 800,000*35 = 28 million. The Treasury Stock method assumes a purchase of shares at 40 using these proceeds. Thus, the number of shares repurchased = 28,000,000/40 = 700,000. Thus, the additional shares arising from warrant exercise equals 800,000 - 700,000 = 100,000. Now, in the Treasury Stock method, options and warrants are assumed to be exercised at the beginning of the period or at the time of issuance, whichever is later. Thus, in this case, the addition 100,000 shares have been outstanding since May 31, 1998. So the weighted number of shares for Diluted EPS = 1 million + 200,000*9/12 + 100,000*7/12 = 1,208,333 shares.