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

CFA Institute CFA-LEVEL-1 Online Questions & Answers

• Question 2301:

  Which of the following statements is most correct?

  A. If a firm repurchases its stock in the open market, the shareholders that tender are subject to capital gains taxes.
  B. All of the statements are correct.
  C. None of these statements are correct.
  D. If you own 100 shares in a company's stock, and the company does a 2 for 1 stock split, you will own 200 shares in the company following the split.
  E. Some dividend reinvestment plans increase the amount of equity capital available to the firm.
  B. All of the statements are correct.

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  Explanation

  Tendering (selling) shares in the open market is a taxable event. With the stock split, you will own twice the shares but the stock price will be halved. Dividend reinvestment plans permit stockholders to automatically reinvest their dividends in the stock of the paying firm. The new stock type of DRIPs invests the dividends in newly issued stock, hence these plans raise new capital for the firm.

• Question 2302:

  Which of the following are objectives of conducting a post audit? Choose the best answer.

  I. Identifying arbitrage opportunities

  II. Improving forecasts

  III. Identifying expansion opportunities

  IV.

  Improve operations

  V.

  Adhering to governmental guidelines for performance presentation

  A. I, II, V
  B. I, II, III, IV
  C. I, II, VII
  D. II, IV
  E. I, II, III, IV, V
  F. I, III, IV
  D. II, IV

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  Explanation

  The post-audit is an important aspect of the capital budgeting process, and involves two steps. Specifically, the post audit involves comparing actual results with forecasted results and determining why any differences exist. There are numerous specific reasons why companies conduct post-audits, but these reasons can be assimilated into two main objectives. Specifically, the objectives of the postaudit are to improve forecasting capacity and improve operations.

• Question 2303:

  Which of the following statements is most correct?

  A. Corporations should fully account for sunk costs when making investment decisions.
  B. All of the answers are correct.
  C. The rate of depreciation will not affect operating cash flows, because depreciation is not a cash expense.
  D. Corporations should fully account for opportunity costs when making investment decisions.
  E. None of the answers are correct.
  D. Corporations should fully account for opportunity costs when making investment decisions.

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  Explanation

  Cash flow = Net income + depreciation; therefore, depreciation affects operating cash flows. Sunk costs should be disregarded when making investment decisions, while opportunity costs should be considered when making investment decisions, as they represent the best alternative use of an asset.

• Question 2304:

  Maria Reyes, CFA, recently purchased a 10 year floating rate bond which is reset semiannually. The bond's coupon is based on the six-month Treasury rate plus 200 basis points with a cap of 8.50%. Identify the TRUE statement regarding these floating rate bonds.

  A. The maximum coupon rate on these bonds would occur when the six-month Treasury bill was at 8.50%.
  B. These floating rate bonds have more interest rate risk than comparable floating rate bonds that reset annually.
  C. If the six-month Treasury rate has been greater than 7. 00% for the past 12 months, these bonds will be priced similar to comparable fixed rate securities.
  C. If the six-month Treasury rate has been greater than 7. 00% for the past 12 months, these bonds will be priced similar to comparable fixed rate securities.

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  Explanation

• Question 2305:

  Rhonda McWilliams, CFA, is examining the financial performance of a large manufacturing company, and has assimilated the following information:

  Adjusted operating profit before tax: $32,000,000 Cash operating taxes: $11,000,000 Cost of capital: 15% per year Total capital employed: $130,670,000

  Using this information, what is the Economic Value Added for this manufacturing firm? Further, should the management of this Company be considered to have created value for shareholders? Choose the best answer.

  A. $4,129,500; management has provided economic value
  B. $5,504,350; management has provided economic value
  C. $1,399,500; management has provided economic value
  D. $6,330,000; management has not provided economic value
  E. $6,330,000; management has provided economic value
  F. None of these answers is correct.
  C. $1,399,500; management has provided economic value

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  Explanation

  Economic Value Added, a value-based measure of economic profit, is a registered trademark of Stern, Stewart and Company. The equation used to calculate EVA is as follows:

  EVA = {Net Operating Profits Less Adjusted Taxes - [Total Capital Employed * (Cost of Capital)]}.

  In this case, the NOPLAT figure must be calculated manually by subtracting the Cash Operating Taxes from the Adjusted Operating Profit before Tax (AOPBT) figure. Doing so will produce an answer of$21,000,000 for the Net Operating

  Profit less Adjusted Taxes figure. Now that the necessary information has been determined, the calculation of EVA is as follows:

  EVA = {$21,000,000 - ($130,670,000 * 0.15)} = $1,399,500

  A positive EVA calculation indicates that management has provided economic profits to shareholders, as evidenced by the fact that the opportunity cost of capital employed is less than the AOPAT figure. In this example, the management of

  Intelligent Semiconductor should be considered as providing shareholder value, and due to the cash-based nature of the EVA calculation, this finding is lithified.

  The calculation of Adjusted Operating Profit Before Taxes (AOPBT), and Cash Operating Taxes are important. The calculation of AOPBT is as follows:

  Operating profit (after depreciation and amortization) + Implied interest on operating leases + any increase in the LIFO reserve + goodwill amortization = Adjusted Operating Profit Before Taxes.

  Cash Operating Taxes, another important component of EVA, is calculated as follows:

  Cash Operating Taxes = Income Tax Expense + tax benefit from interest expenses + tax benefit from interest on leases + taxes on non-operating income

  Adjusted Operating Profit Before Taxes minus Cash Operating Taxes = Net Operating Profit Less Adjusted Taxes (NOPLAT). Subtracting the dollar cost of capital from the NOPLAT figure will yield the EVA.

• Question 2306:

  Firms in which of the following industries would likely have the highest earnings retention rate? Further, are firms in this industry are likely to be financed primarily through debt or equity?

  A. Fiber optics networking; equity
  B. Computer manufacturing; debt
  C. Media; equity
  D. Media; debt
  E. Computer manufacturing; equity
  F. Fiber optics networking; debt
  A. Fiber optics networking; equity

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  Explanation

  Of the industries listed, fiber optics networking would be expected to have the highest earnings retention rate. The fiber optics networking industry is characterized by a high degree of investment in research and development, along with a

  high growth rate and level of uncertainty. All of these factors are conducive to a high retention rate, i.e. a low dividend payout ratio. Further, firms within industries associated with high growth rates and high levels of uncertainty are likely to be

  financed primarily with equity. This is reasoned by several factors, some of which include the following:

  Firms in new industries typically have a balance sheet weighted heavily toward intangible assets, which can neither be easily liquidated nor pledged as collateral for a loan.

  Firms in new industries are characterized by a high degree of research and development expenses.

  Equity provides firms in emerging industries with a higher degree of agility than debt financing.

  The cash flows of firms in developing industries are characterized by a high degree of uncertainty, which often prevents the reliable payment of debt obligations.

• Question 2307:

  Which of the following correctly lists the two techniques for estimating the earnings multiplier for an industry? Choose the best answer.

  A. Residual earnings method and the arbitrage pricing theory.
  B. The top-down approach and the bottom-up approach.
  C. The industry life cycle method and the free-cash flow method.
  D. Macroanalysis and Microanalysis.
  E. The time series method and regression analysis.
  F. None of these answers is completely correct.
  D. Macroanalysis and Microanalysis.

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  Explanation

  There is two common methods for estimating the earnings multiplier for an industry - macroanalysis and microanalysis. Macroanalysis involves an examination of the relationship between the earnings multiplier for an industry and the earnings multiplier for the market. Microanalysis involves an estimation of the specific variables that influence the earnings multiplier, including the required rate of return, the estimated growth rate, and the dividend payout ratio. While the top down and bottom up method are similar to Macroanalysis and Microanalysis, respectively, they do not represent the best possible answer. Specifically, the top-down and bottom up approaches are typically used to identify investment opportunities, not for the estimation of an industry earnings multiplier.

• Question 2308:

  At the end of every year for the next 3 years, you deposit $400 in an account that pays 5% per year, annually compounded. After that, you do not make any more deposits. The amount that you can withdraw after 7 years is:

  A. $1,533
  B. $1,492
  C. $1,917
  D. $1,261
  A. $1,533

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  Explanation

  For the first 3 years, your regular deposits constitute an annuity and after that, a simple term deposit. The future value of an n-period annuity that starts paying at the end of the current period equals FV = (C/r)*[(1+r)^n - 1] where C is the payment per period and r is the one-period interest rate. In this example, the annuity is over 3 periods, C = 400 and the per period rate equals 5%. So the future value of the deposits after 3 years equals (400/0.05)*[1.05^3 - 1] = 1,261. Starting in year 3, this amount grows at an annual rate of 5% for a period of 7-3 = 4 years. So in 7 years, the amount in the account equals 1,261*1.05^4 = $1,533.

• Question 2309:

  "Decision makers systematically err in their forecasts of economic variables." This is implied by which of the following:

  A. Rational Expectations hypothesis.
  B. Adaptive Expectations hypothesis.
  C. Random Expectations hypothesis.
  D. Constant Expectations hypothesis.
  B. Adaptive Expectations hypothesis.

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  Explanation

  According to the Adaptive Expectations hypothesis, people consider the recent past as the best predictor of the immediate future. Hence, when an economic variable is increasing, they will consistently tend to under-estimate the future value of that variable and vice versa. Thus, they systematically err in their decision-making, without learning from past mistakes.

• Question 2310:

  Standard III (A) deals with ________.

  A. None of these answers
  B. Obligation to Inform Employer of Code and Standards
  C. Professional Misconduct
  D. Use of Professional Designation
  E. Plagiarism
  F. Duty to Employer
  G. Disclosure of Conflicts to Employer
  H. Fundamental Responsibilities
  B. Obligation to Inform Employer of Code and Standards

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  Explanation

  Standard I deals with Fundamental Responsibilities. Standard II (A) deals with Use of Professional Designation. Standard II (B) deals with Professional Misconduct. Standard II (C) deals with Plagiarism. Standard III (A) deals with the Obligation to Inform Employer of Codes and Standards. Standard III (B) deals with the Duty to Employer. Standard III (C) deals with Disclosure of Conflicts to Employer.