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

CFA Institute CFA-LEVEL-1 Online Questions & Answers

• Question 3491:

  Thomas Otto is an associate in the strategic consulting group for a medium-sized manufacturing company. Historically, the firm has financed projects using internal equity funds. The company is approaching the retained earnings break-even

  point, and the group's Executive Vice President asks Otto to determine the change in the weighted average cost of capital (WACC) if the firm uses external equity funds instead of internal funds. An analyst in the group provides the following

  information:

  And, the firm's investment bank provides the following projections for a new common stock issue:

  Which of the following choices best completes the following sentence? Using this information, Otto reports that the WACC will:

  A. increase by 1.82%.
  B. increase by 1.66%.
  C. decrease by 1.66%.
  D. remain the same.
  A. increase by 1.82%.

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  Explanation

  Step 1: Calculate WACC using internal equity:

  WACC = (wd)(kd) + (ws)(ks), where wd, wsare the weights used for debt and retained earnings.

  WACC = (0.40 * 6. 0%) + (0.60 * 13. 0%) =10.20%.

  Step 2: Calculate WACC using external equity (new common stock):

  First, we need to determine the cost of new common equity. Thecost of new common equityis given by:

  ke= [D1/ (P0(1

• Question 3492:

  Under US GAAP accounting, RandD expenses cannot be capitalized. They must be expensed as and when incurred. Which of the following is NOT a reason to support this practice?

  A. Most RandD activities represent intangible benefits which are hard to evaluate objectively from an accounting perspective.
  B. In most cases, there is a significant lag between RandD expenses and the determination of the potential success of the research.
  C. There remains a high uncertainty about the ultimate benefits to be derived from the RandD activities on which the expenses are incurred.
  D. RandD expenses are difficult to measure and hence, must be expensed in accordance with accrual accounting principles.
  D. RandD expenses are difficult to measure and hence, must be expensed in accordance with accrual accounting principles.

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  Explanation

  Note that RandD expenses are, for the most part, are clearly ear-marked as such and hence, are not difficult to measure. Of course, some of these expenses go into generating tangible assets like laboratories and flasks but these are easily measurable and do get capitalized under US GAAP. The other three reasons imply that it is difficult to measure the present value of the assets being generated (if at all) by the research. This prevents a consistent and reliable application of the accrual principles, which require allocation of expenses in proportion to the current benefits generated. Hence, US GAAP takes the easiest solution of expensing all the RandD costs.

• Question 3493:

  Consider the following information about an automobile manufacturer:

  Next annual dividend: $4. 11 Earnings per share next year: $7. 02 Anticipated growth rate: 6% per year Required rate of return: 11% per year

  What is the expected earnings multiplier for this utility company?

  A. 12. 41
  B. Manipulating the Infinite Period DDM will produce a nonsensical answer in this case.
  C. 18.51
  D. 11.71
  E. 13. 51
  D. 11.71

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  Explanation

  To determine the earnings multiplier (i.e. the price-to-earnings ratio) for an individual company, use the following formula:

  P/E = [(d1 / e1) / (k - g)]

  Where: P/E = the earnings multiplier, d1 / e1 = the dividend payout ratio at t1, k = the required rate of return, and g = the anticipated future growth rate. In this example, all of the necessary information has been provided, but some rearranging

  is necessary. Specifically, the dividend payout ratio must be determined. This figure is found as follows:

  Dividend payout ratio = [$4. 11 / $7. 02] = 0.58547, or 58.55%

  Now that the dividend payout ratio has been determined, we can solve for the appropriate earnings multiplier. The calculation of this figure is found as follows:

  P/E = [0.5855 / (0.11 - 0.06) = 11.71

  In generally favorable economic conditions, this is a realistic earnings multiple for an average automobile manufacturer.

• Question 3494:

  A bond dealer determines that the present value of a particular Treasury note based on Treasury spot rates is greater than its market price. The dealer can generate an arbitrage profit (assuming no transactions costs) by:

  A. buying the Treasury note and selling its cash flows as Treasury STRIPS
  B. buying the equivalent Treasury STRIPS and selling them as a Treasury note.
  C. buying the undervalued note and selling short the Treasury security with the nearest maturity.
  A. buying the Treasury note and selling its cash flows as Treasury STRIPS

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  Explanation

• Question 3495:

  Jorge FuIIen is evaluating a 7% 10-year bond that is callable at par in 5 years. Coupon payments can be reinvested at an annual rate of 7%, and the current price of the bond is $106. 50. The bond pays interest semiannually. Should Fullen consider the yield to first call (YTC) or the yield to maturity (YTM) in making his purchase decision?

  A. YTM, since YTM is greater than YTC.
  B. YTC, since YTC is less than YTM
  C. YTC, since YTC is greater than YTM.
  B. YTC, since YTC is less than YTM

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  Explanation

• Question 3496:

  ________ utilize forward contracts to safeguard the value (in home currency terms) of assets denominated in a foreign currency on its balance sheet.

  A. All of these answers
  B. Arbitrageurs
  C. Traders
  D. Hedgers
  E. Speculators
  D. Hedgers

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  Explanation

  Speculators choose to be exposed to currency risk (unlike the three above who attempt to

  minimize/eliminate risk) by using forward contracts to benefit from exchange rate fluctuations. Arbitrageurs utilize forward contracts to rid themselves of exchange risk in the currency markets. Traders utilize forward contracts to end (or cover)

  the chance of loss on export or import orders that are denominated in foreign currencies.

• Question 3497:

  Within the AD/AS model, an unanticipated increase in short-run aggregate supply will cause real output to

  A. decline and prices fall.
  B. decline and prices rise.
  C. expand and prices rise.
  D. expand and prices fall.
  D. expand and prices fall.

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  Explanation

  An unanticipated increase in aggregate supply decreases the price level and increases current output. The long run aggregate supply of the country is not affected.

• Question 3498:

  Ron Logan, CFA, is a bond manager. He purchased $50 million in 6. 0% coupon Southwest Manufacturing bonds at par three years ago. Today, the bonds are priced to yield 6. 85%. The bonds mature in nine years. Identify the most accurate statement regarding the pricing and yield of these bonds.

  A. The bonds are trading at a discount, and the yield to maturity (YTM) has increased since purchase.
  B. The bonds are trading at a premium, and the yield to maturity (YTM) has decreased since purchase.
  C. The bonds are trading at a discount and the yield to maturity (YTM) has decreased.
  A. The bonds are trading at a discount, and the yield to maturity (YTM) has increased since purchase.

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  Explanation

• Question 3499:

  Metals Inc. had the following liabilities at December 31, 1996: Accounts payable $55,000 Unsecured notes, 8%, due 7/1/97 $400,000 Accrued expenses $35,000 Contingent liability $450,000 Deferred income tax liability $25,000 Senior bonds, 7%, due 3/31/97 $1,000,000

  The contingent liability is an accrual for possible losses on a $1,000,000 lawsuit filed against Metals Inc. Metals' legal counsel expects the suit to be settled in 1998 and has estimated that Metals will be liable for damages in the range of $450,000 to $750,000. The deferred income tax liability is not related to an asset for financial reporting and is expected to reverse in 1998. What amount should Metals report in its December 31, 1996 balance sheet for current liabilities?

  A. None of these answers
  B. $1,490,000
  C. $940,000
  D. $515,000
  E. $1,515,000
  B. $1,490,000

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  Explanation

  A current liability is an obligation that will be liquidated within 1 year. Therefore, we need to include accounts payable, unsecured notes, accrued expenses, and the senior debt which total all together $1,490,000.

• Question 3500:

  The accumulated amount by which a plant asset has been depreciated over its useful life is classified as

  A. a liability
  B. an asset
  C. an expense
  D. revenue
  B. an asset

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  Explanation

  Accumulated Depreciation reports the total amount of depreciation expense recognized in all prior periods since the asset(s) were put into service.