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

CFA Institute CFA-LEVEL-1 Online Questions & Answers

• Question 321:

  An investor has a quarterly compounded required rate of return of 9% per year. How much will he pay for a nine-year ordinary annuity that pays $100 per year?

  A. $599.5
  B. $574. 3
  C. $592. 6
  D. $594. 6
  C. $592. 6

  ---

  Explanation

  The annually compounded rate equals (1 + 9%/4)^4 - 1 = 9.3%. Therefore, the present value of the annuity equals 100/0.093*[1 - 1/1.093^9] = $592. 6.

• Question 322:

  If the dividend payout ratio for a stock market series is anticipated to increase as the industry advances towards relative maturity, which of the following would occur assuming that both k and g remain constant? Further, what would occur if the growth rate of dividends were to exceed the required rate of return?

  A. The earnings multiplier would decrease; the earnings multiplier would produce a nonsensical (negative) answer.
  B. The earnings multiplier would decrease; the earnings multiplier would increase.
  C. The earnings multiplier would increase; the earnings multiplier would decrease.
  D. The earnings multiplier would increase; the earnings multiplier would produce a nonsensical (very large) answer.
  E. The earnings multiplier would increase; the earnings multiplier would produce a nonsensical (negative) answer.
  E. The earnings multiplier would increase; the earnings multiplier would produce a nonsensical (negative) answer.

  ---

  Explanation

  Remember that the equation used to determine the appropriate earnings multiplier for a stock market series is the following:

  {P/E = [D/E / (k - g)]}

  Where: P/E = the earnings multiplier, or Price-to-Earnings ratio, D/E = the dividend payout ratio at t1, k = the required rate of return, and g = the anticipated growth rate of dividends. According to this equation, an increase in the dividend payout ratio will lead to an increase in the earnings multiplier, assuming that both the required rate of return and the anticipated growth rate remain unchanged. In reality, this assumption is nonsensical in this case. Specifically, the dividend payout ratio is anticipated to increase because the industry is becoming more mature. In other words, companies comprising the series are expected to pay out more of their earnings as dividends due to diminishing positive NPV investment opportunities. By definition this would decrease the anticipated growth rate, which would in turn lead to a decline in the earnings multiplier. If the anticipated growth rate were to exceed the required rate of return, the resulting earnings multiplier would be a negative number, a result that doesn't make sense.

• Question 323:

  A company has determined that its optimal capital structure consists of 40 percent debt and 60 percent equity. Given the following information, calculate the marginal weighted average cost of capital when the capital budget is $40,000.

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

  Net income = $40,000

  Payout ratio = 50%

  Tax rate = 40%

  P(0) = $25

  Growth = 0%

  Shares outstanding = 10,000 Flotation cost on additional equity = 15%

  A. 13. 69%
  B. 11.81%
  C. 8.05%
  D. 14. 28%
  E. 7. 20%
  C. 8.05%

  ---

  Explanation

  First, find the amount of equity and debt needed for a $40,000 budget:

  Debt = 0.4 x $40,000 = $16,000; Equity = 0.6 x $40,000 = $24,000.

  We can find the amount of retained earnings = Net Income(1 - Payout ratio), or RE = $40,000 x 0.5 = $20,000.

  We will need to find the cost of new common equity, because we have only $20,000 of equity on hand, and we need $4,000 more!

  Find the dividend, Do = [(0.5) $40,000]/# of Shares = $20,000/10,000 = $2. 00.

  Then, find the cost of new equity: k(e) = D1/[P0(1 - F)] + g = $2. 00/[$25(1 - 0.15)] + 0% = 0.0941 = 9.41%.

  Finally, calculate WACC, using k(e) = 0.0941, and k(d) = 0.10, so

  WACC = (D/A)(1 - Tax rate)k(d) + (E/A)k(e)

  WACC = 0.4(1 - 0.4)(0.10) + 0.6(0.0941) = 0.0805, or 8.05%.

• Question 324:

  According to the AIMR-PPS when presenting the performance record of composites containing portfolios that use leverage, which of the following statements are true?

  A. If the use of leverage is discretionary, the performance presented must include the effects of the leverage.
  B. If the use of leverage is discretionary, performance on a restated, all-cash basis must be provided.
  C. All of these statements are true.
  D. If the use of leverage is nondiscretionary, performance must be presented on an all-cash basis.
  C. All of these statements are true.

  ---

  Explanation

  For composites containing portfolios that use leverage, all of the statements are true. This is a requirement for presentation of results.

• Question 325:

  Which of the following is/are true about "compensating balances?"

  I. They are reserve balances maintained for emergency spending requirements.

  II. If compensating balances are legally restricted, they must be segregated on the balance sheet.

  III.

  Compensating balances are overstated if "floats" are included as part of the cash.

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

  ---

  Explanation

  Compensating Balances are cash balances in the form of demand deposits which are used to satisfy existing borrowing arrangements and assure a good credit standing. They are not reserves maintained for emergencies. Unrestricted balances are disclosed in footnotes; however, if they are legally restricted for specific purposes, they must be separately presented in the balance sheet.

• Question 326:

  Alvarez Technologies has sales of $3,000,000. The company's fixed operating costs total $500,000 and its variable costs equal 60 percent of sales, so the company's current operating income is $700,000. The company's interest expense is $500,000. What is the company's degree of total leverage (DTL)?

  A. 3. 500
  B. 6. 000
  C. 1.714
  D. 3. 100
  E. 3. 250
  B. 6. 000

  ---

  Explanation

  DTL = (S - VC)/(EBT - I)

  = ($3,000,000 - $1,800,000)/($700,000 - $500,000)

  = 6.

• Question 327:

  Which of the following is/are true about trading securities?

  I. They are current assets.

  II. They are reported at fair market value.

  III.

  Changes in their reported value are allocated directly to retained earnings.

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

  ---

  Explanation

  Marketable securities classified as "Trading securities" are financial securities purchased with the intent to sell in the near future. They are therefore categorized as current assets and reported at the fair market value on the date of the balance sheet. When the classification of a trading security is changed, the assignation of the security to the new account is carried out at the fair market value on the transfer date, with any gain or loss reflected separately on the income statement.

• Question 328:

  Ned Jones, CFA, manages an endowment fund. The fund's asset allocation includes domestic stocks and bonds, international stocks and bonds, as well as real estate investments. Jones wants to establish an accurate benchmark to compare the fund's performance against. Which of Jones' following statements concerning indexes to be used for benchmarking is least likely correct?

  A. The creation of an investment bond index is difficult because of bond pricing issues, and because the universe of bonds is constantly changing.
  B. Correlations between bond index returns for different countries have tended to be lower than correlations between different bond indexes within a single country.
  C. Sovereign bond indexes outside the United States represent after tax returns.
  C. Sovereign bond indexes outside the United States represent after tax returns.

  ---

  Explanation

• Question 329:

  Which of the following statements best describes the relationship between a valuation factor and its effect on the present value of a bond, holding all else constant?

  A. Using a lower discount rate will generate a lower present value.
  B. A bond with a lower coupon rate will have a higher present value.
  C. Using a higher discount rate will generate a lower present value.
  C. Using a higher discount rate will generate a lower present value.

  ---

  Explanation

• Question 330:

  Which of the following is not considered a capital component?

  A. All of these are considered capital components
  B. Preferred stock
  C. Common stock
  D. Long-term debt
  E. Retained earnings
  A. All of these are considered capital components

  ---

  Explanation

  The four major capital components are debt, preferred stock, retained earnings, and new issues of common stock.