Chapter 06

Multiple choice questions

1. Passive investment means building a portfolio of shares based on the strategy of:
- A. Active trading
- B. Replicating a market index
- C. Timing the market
- D. Selecting individual stocks
2. Investors buy listed shares:
- A. To avoid taxes
- B. To hold them indefinitely
- C. For guaranteed returns
- D. For the chance of dividend payments and capital growth
3. Typically, a large stock exchange__________ has listed on it:
- A. Local companies
- B. International companies
- C. Technology companies
- D. All of the given choices
4. Compared with fixed interest securities, shares offer:
- A. Fixed returns
- B. Lower risk
- C. Guaranteed dividends
- D. Periodic dividends and capital gains at higher risk
5. A diversified portfolio generally includes:
- A. 1-5 stocks
- B. 5-10 stocks
- C. 25-50 stocks
- D. 10-25 stocks
6. According to the text, an investment portfolio that is well-diversified contains:
- A. Only shares
 - B. Only fixed-interest securities
- C. Only properties
- D. A large range of shares, fixed-interest securities, and properties
7. Systematic risk means:
- A. Risks specific to a single company
- B. Risks that can be diversified away
- C. Risks that affect only a small sector
- D. Risks that have an impact on the majority of shares in the market
8. The risk that impacts specifically on the share price of a particular company is
called:
- A. Market risk
- B. Systematic risk
- C. Economic risk
- D. Unsystematic risk
9. Which of the following is an example of systematic risk exposures for a company?
- A. Change in management
- B. Product recall
- C. Introduction of new company legislation
- D. Change in future performance forecast for a company
10. Which of the following is an example of an unsystematic risk exposure for a
company?
- A. Economic recession
- B. Change in interest rates
- C. Introduction of new company legislation
- D. Change in future performance forecast for a company
11. When investors buy and sell shares based on receiving new information on shares
and markets, this is known as:
- A. Active investment
- B. Passive investment
 - C. Indexing
- D. Market timing
12. To track the S&P500, a fund manager can buy:
- A. The top 50 shares
- B. Technology shares
- C. Financial shares
- D. a broad representation of the entire index
13. Which of the following about share market indices is NOT correct?
- A. The S&P500 tracks 500 shares in the USA
- B. The FTSE 100 tracks 100 shares in the UK
- C. The Nikkei 225 tracks 225 shares in Japan
- D. The Dow Jones tracks 50 shares in the USA
14. The correlation of pairs of securities within a portfolio is called:
- A. Variance
- B. Standard deviation
- C. Covariance
- D. Beta
15. The correlation between two shares:
- A. Measures the degree to which they move together
- B. Can be positive or negative
- C. Is used to diversify risk
- D. Includes all of the given answers
16. For a portfolio of stocks, portfolio risk is heavily based on:
- A. The average return of the stocks
- B. The individual risk of each stock
- C. A weighted average of the covariance of the stocks in the portfolio
- D. The total number of stocks in the portfolio
17. When an investor alters the mix of their portfolio to reflect market changes or their
circumstances, this is called asset allocation:
 - A. Strategic
- B. Fixed
- C. Dynamic
- D. Tactical
18. For an investor, the mix of shares that satisfies their known cash-flow requirements,
risk tolerance, and future life cycle positions is called:
- A. Tactical asset allocation
- B. Strategic asset allocation
- C. Dynamic asset allocation
- D. Fixed asset allocation
19. Stockbrokers act as for an exchange:
- A. Agents
- B. Principals
- C. Market makers
- D. Underwriters
20. Major differences between a discount stockbroker and a full-advisory stockbroker
lie in:
- A. The level of service provided
- B. The fees charged
- C. The type of advice given
- D. All of the given answers
21. Which of the following does NOT apply to full-advisory stockbrokers?
- A. They provide personalized advice
- B. They offer a wide range of services
- C. They charge higher fees than discount brokers
- D. Their fees are competitive with discount brokers
22. When an investor purchases units in a unit trust, this is known as investing:
- A. Directly
- B. Actively
 - C. Indirectly
- D. Passively
23. When a share investor puts an order to buy shares through their stock broker via
their internet share account, this is called:
- A. Indirect investment
- B. Direct investment
- C. Passive investment
- D. Active investment
24. Which of the following statements regarding dividends is incorrect?
- A. Dividends are a share of the company's profits
- B. Dividends can be paid in cash or additional shares
- C. An investor is generally required to pay taxation on the final dividend payment
- D. Dividends are usually paid quarterly or annually
25. Which of the following statements is NOT correct?
- A. Dividend imputation credits can reduce the tax payable on dividends
- B. Shareholders may receive a refund if their marginal tax rate is lower than the
company tax rate
- C. In relation to dividend imputation, a shareholder whose marginal tax is lower
than the company tax rate will pay their marginal tax on the dividend received
- D. Dividend imputation aims to avoid double taxation of company profits
26. The capital structure of a company is one of the important indicators of
performance. Which of the following statements regarding capital structure is
incorrect?
- A. It includes the mix of debt and equity financing
- B. It affects the company's financial risk
- C. It influences the company's cost of capital
- D. The capital ratios of companies, and industry groupings, are generally similar
27. When using indicators for a company's performance:
- A. Profitability ratios are considered
 - B. Liquidity ratios are analyzed
- C. Solvency ratios are reviewed
- D. All of the given answers are correct
28. Compared with a company's current ratio, the shareholders' interest ratio gives
information about a company's:
- A. Short-term liquidity
- B. Profitability
- C. Long-term viability
- D. Market value
29. Which of the following are current assets?
- A. Long-term investments
- B. Fixed assets
- C. Goodwill
- D. Inventories
30. Which of the following are current liabilities of a company?
- A. Long-term debt
- B. Shareholders' equity
- C. Bank overdraft facility
- D. Retained earnings
31. The greater the proportion of debt financing compared with equity financing for a
company, the:
- A. Lower the financial risk
- B. Higher the profitability
- C. Greater the degree of financial risk for the company
- D. Lower the cost of capital
32. A company with a ratio of equity to debt is dependent on external financing:
- A. Lower; more
- B. Higher; more
- C. Higher; less
 - D. Lower; less
33. The ratio measures the proportion of total assets provided by the company's
owners:
- A. Shareholder's interest
- B. Debt-to-equity
- C. Current ratio
- D. Quick ratio
34.The indicator ratio that should be used to assess a company’s ability to meet its
short-term obligations is its:
o A. Liquidity
o B. Profitability
o C. Solvency
o D. Efficiency
35.Which ratio is a measure of liquidity that excludes inventories?
o A. Current ratio
o B. Liquid ratio
o C. Debt ratio
o D. Equity ratio
36.An example of a liquidity ratio for a company is:
o A. Debt-to-equity ratio
o B. Current ratio
o C. Return on equity
o D. Gross profit margin
37.A company has a higher current ratio than the industry average. This implies that
the company:
o A. Is less profitable than other companies in the industry
o B. Is more likely to avoid insolvency in the short term than other
companies in the industry
o C. Has higher long-term debt than other companies in the industry
 o D. Has lower liquidity than other companies in the industry
38.If a company has a current ratio of 2, which of the following measures will
increase the current ratio?
o A. Increasing inventory
o B. Taking on more short-term debt
o C. Paying off long-term debt with short-term funds
o D. Paying off a short-term bank advance with long-term debt
39.If a company has a current ratio of 0.9, in order to improve its current ratio it
might:
o A. Increase its short-term liabilities
o B. Use more long-term debt to decrease current liabilities
o C. Decrease its current assets
o D. Increase its inventory
40.If a company has a liquid ratio of 0.9, in order to improve its liquid ratio it
might:
o A. Increase its inventory
o B. Decrease its accounts receivable
o C. Increase its large amounts of accounts receivable to improve its cash
position
o D. Increase its short-term liabilities
41.The ratio is an indicator of the longer-term viability and stability of a company:
o A. Shareholders’ interest
o B. Current ratio
o C. Quick ratio
o D. Debt ratio
42.For a company, a rule of thumb for the interest cover financial ratio is in the
range:
o A. 0.5 to 1
o B. 1 to 2
 o C. 2 to 3
o D. 3 to 4
43.Which financial ratio provides information essential for assessing the long-run
operation of the company?
o A. Debt ratio
o B. Current ratio
o C. Quick ratio
o D. Gross profit margin
44.The financial ratio that indicates the number of years required for a company to
repay its total debt is:
o A. Current ratio
o B. Quick ratio
o C. Debt to gross cash flow
o D. Return on equity
45.The financial ratio that measures operating profit after tax to shareholders’ funds
is:
o A. Current ratio
o B. Return on equity
o C. Quick ratio
o D. Debt ratio
46.Compared with a company’s interest cover ratio, earnings before interest and tax
measures its:
o A. Liquidity
o B. Solvency
o C. Profitability
o D. Efficiency
47.Which of the following groups of financial ratios provide information on the
short-run operation of the company?
o A. Solvency and efficiency
 o B. Profitability and solvency
o C. Efficiency and liquidity
o D. Liquidity and profitability
48.Which financial ratio links long-term funds provided by the company’s owners
and those of the creditors?
o A. Current ratio
o B. Debt to equity
o C. Quick ratio
o D. Return on equity
49.Which financial ratio is used to measure a company’s ability to meet its short-
term financing?
o A. Debt ratio
o B. Liquidity
o C. Profitability
o D. Efficiency
50.Which financial ratio measures a company’s ability to service its interest
commitments?
o A. Current ratio
o B. Quick ratio
o C. Debt ratio
o D. Interest cover
51.The higher the value of the ratio, the better able the firm is to meet its short-term
financial obligations:
o A. Debt
o B. Liquidity
o C. Profitability
o D. Efficiency
52.The is an indicator of investors’ evaluation of a company’s future earnings
potential:
 o A. Current ratio
o B. Price/earnings ratio
o C. Quick ratio
o D. Debt ratio
53.The following is a simplified financial position statement for a company:

Assets $ Liabilities $

Accounts
Cash 250,000 1,480,000
payable

Accrued
Trading
350,000 expenses 420,000
securities
payable

Accounts
1,360,000 Taxes payable 140,000
receivable

Inventory 2,470,000 Long-term debt 3,850,000

Shareholders’
Property 3,350,000 2,340,000
funds

Equipment 450,000

Calculate the liquidity ratio:

o A. 0.85
o B. 0.96
o C. 1.05
o D. 1.15
54.Which of the following statements regarding the debt servicing capacity of a
company is incorrect?
o A. The higher the interest cover ratio, the better the company’s ability to
cover interest commitments
o B. A low interest cover ratio indicates higher financial risk
o C. Interest cover ratio is calculated as EBIT divided by interest expense
o D. The lower the interest cover ratio, the greater the company’s ability to
cover interest commitments
55.If a share currently sells for $20 and has annual earnings per share of 8.0, the
price/earnings ratio is:
o A. 2.0
o B. 2.5
o C. 3.0
o D. 4.0
56.The ratio is an indicator of the share market’s evaluation of a company:
o A. Current ratio
o B. Price/earnings
o C. Quick ratio
o D. Debt ratio
57.Systematic risk is also referred to as:
o A. Credit risk
o B. Operational risk
o C. Market risk
o D. Liquidity risk
58.The risk that affects the whole market is called:
o A. Credit risk
o B. Systematic risk
o C. Operational risk
o D. Liquidity risk
 59.In modern portfolio theory, investment risk is divided into two components:
systematic risk and unsystematic risk. Which of the following risks is an
example of systematic risk?
o A. Increase in the corporate tax rate
o B. Product recall
o C. Change in management
o D. Lawsuit against the company
60.Increased competition, increased costs of labour, lawsuits, and unfavourable
exchange rates are all examples of:
o A. Diversifiable risk
o B. Systematic risk
o C. Market risk
o D. Credit risk
61. Which of the following is NOT an example of unsystematic risk for a company?
- A. Product recall
- B. Change in management
- C. Lawsuit against the company
- D. Changes occur in the level of company tax rates
62. Estimating systematic risk involves comparing the price history of a particular
share relative to movements on stock listed on an exchange:
- A. An average
- B. A median
- C. A mode
- D. A standard deviation
63. The higher the beta of a share the:
- A. Greater the systematic risk
- B. Lower the systematic risk
- C. Greater the unsystematic risk
- D. Lower the unsystematic risk
64. In modern portfolio theory, an investor should not be concerned with unsystematic
risk when calculating expected rates of return because:
- A. Unsystematic risks are negligible
- B. Unsystematic risks are assumed to be removed by diversification
- C. Systematic risks are more important
- D. Unsystematic risks are constant
65. Which of the following about beta coefficient is incorrect?
- A. A stock with a beta of 1.0 moves with the market
- B. A stock with a beta of less than 1.0 is less volatile than the market
- C. A stock with a beta of 1.25 will move more than a stock with a beta of 1.25
- D. A stock with a beta of more than 1.0 is more volatile than the market
66. What should be the price of a share that constantly pays $2.50 annually in
dividends, if the growth rate is zero and the required rate of return is 8% per annum?
- A. $20.00
- B. $25.00
- C. $31.25
- D. $35.00
67. What should be the price of a share if it paid $1.75 in dividends in the last financial
year, its dividend growth rate is 4%, and the required rate of return is 11%?
- A. $20.00
- B. $26.00
- C. $30.00
- D. $35.00
68. The majority of companies pay dividends twice a year to their:
- A. Employees
- B. Creditors
- C. Shareholders
- D. Suppliers
69. When a share goes ex-rights, assuming everything else remains the same, its price
should:
- A. Increase, as the shareholder gains an option
- B. Decrease, as the shareholder is losing an option
- C. Remain the same
- D. Fluctuate unpredictably
70. After a company has made an announcement about a forthcoming dividend, then at
a specified date when the share begins to trade ex-dividend:
- A. The buyer of the share will receive the next dividend payment
- B. The company will cancel the dividend payment
- C. The seller of the share will receive the next dividend payment
- D. The dividend payment will be postponed
71. When a share is trading for a period with a cash dividend entitlement, then the
share is said to trade:
- A. Ex-dividend
- B. Post-dividend
- C. Cum-dividend
- D. Pre-dividend
72. If a dividend is declared on 1 November, has a cum-dividend date of 19 November
and a record date of 26 November, which of the following shareholders will NOT
receive the dividend?
- A. A buyer of the share on 1 November
- B. A buyer of the share on 18 November
- C. A buyer of the share on 19 November
- D. A buyer of the share on 29 November
73. On the day that a share goes ex-dividend, the price should theoretically:
- A. Increase by the extent of the dividend
- B. Decrease by the extent of the dividend
- C. Remain the same
- D. Fluctuate unpredictably
74. The decision to pay cash dividends to shareholders is made by the:
- A. Shareholders
- B. Employees
- C. Board of directors
- D. Creditors
75. A company declares a dividend of 35 cents per share, which was payable on 14
September. Immediately prior to the declaration of the dividend, the share price was
$4.79. At the close of trading on the stock exchange on 13 September, the share price
was $5.44. What is the theoretical ex-dividend price of the share?
- A. $4.79
- B. $5.44
- C. $5.09
- D. $5.79
76. A rights issue differs from a bonus issue of shares in that:
- A. A rights issue is free for shareholders
- B. A bonus issue raises more funding for the company
- C. The purpose of a bonus issue for a company is not to raise more funding
- D. A rights issue does not dilute the value of existing shares
77. Which of the following statement about bonus shares is NOT correct?
- A. Bonus shares are issued free of cost to shareholders
- B. If a company offers a 1 for 4 bonus issue this means for every 1 share a
shareholder owns they get four extra shares
- C. Bonus shares increase the number of shares outstanding
- D. Bonus shares do not affect the total market capitalization of the company
78. When shares are purchased cum-rights it means the purchaser of the share:
- A. Will not receive the rights offer
- B. May take part in the rights offer
- C. Will receive a bonus share
- D. Will not receive any dividends
79. If a company offers a one-for-five bonus issue and the current share price cum-
bonus is $7.50, the theoretical value of each share ex-bonus is:
- A. $6.00
- B. $6.25
- C. $7.00
- D. $7.50
80. A company whose share is selling for $24 announces a stock split of four-for-three.
Which of the following statements is correct?
- A. There will be one-third fewer shares on issue and they will sell for $32
- B. There will be one-third fewer shares on issue and they will sell for $18
- C. There will be one-third more shares on issue and they will sell for $18
- D. There will be one-third more shares on issue and they will sell for $32
81. A company whose shares are currently trading at $3.60 proposes to have a 25%
split; that is, four new shares for one existing share. At the commencement of the next
business day, a dividend of 25 cents is paid on existing shares, followed immediately
by the share split. What is the theoretical price of the new shares?
- A. $0.85
- B. $0.90
- C. $0.95
- D. $1.00
82. Share market participants can regard a bonus issue favourably because:
- A. It increases the company's debt
- B. It dilutes the value of existing shares
- C. They take it as a signal from the company of increased future profitability
- D. It decreases the company's equity
83. An investor holds 100 shares of a company that is about to make a bonus issue of
five shares for every two held. If the shares are currently trading for $2.50, what will be
the value of the holding after the bonus issue?
- A. $200
- B. $250
- C. $300
- D. $350
84.The current market price of a stock is $3.00. The rights issue is one-for-ten,
priced at $2.80. Calculate the theoretical ex-rights price:
o A. $2.90
o B. $2.95
o C. $2.98
o D. $3.00
85.Which of the following is an aim of a stock split?
o A. To increase the company’s debt
o B. To reduce the number of shares outstanding
o C. To raise additional capital
o D. To try to improve the liquidity of shares
86.There is change in the capital structure of a company after a share split:
o A. Significant
o B. Moderate
o C. No
o D. Minimal
87.Share market participants can regard a rights issue favourably because:
o A. It decreases the equity/debt ratio
o B. A rights issue increases the equity/debt ratio, and so reduces financial
risk
o C. It dilutes the value of existing shares
o D. It increases the company’s debt
88.When a share price of a company has increased hugely compared to the prices of
most other shares on the exchange and its liquidity has decreased, the directors
may decide to:
o A. Split the number of shares on issue
 o B. Issue more debt
o C. Reduce the number of shares on issue
o D. Increase the dividend payout
89.The S&P/ASX All Ordinaries share price index represents:
o A. Changes in aggregate share market values of the largest 500 companies
o B. Changes in the top 100 companies
o C. Changes in the top 200 companies
o D. Changes in the top 50 companies
90.According to the text, a tradable benchmark:
o A. Is always a broad market index
o B. May be a performance benchmark index but with a narrower focus
upon which some derivative contracts are priced
o C. Is not used for derivative contracts
o D. Is only used for large-cap stocks
91.Consider the following five statements: i. The expected return of a portfolio of
shares is the weighted average of the expected returns for each share. ii. All other
things being equal, a cum-dividend share price should fall by the amount of a
dividend that is paid. iii. One of the effects of dividend imputation is the removal
of ‘double taxation’ of company profits that are distributed as dividends. iv. For
a shareholder with a marginal tax rate that is lower than the company tax rate, no
tax will be payable on the fully franked dividend received, and the excess credit
can be applied against other assessable income. v. In a one-for-nine bonus issue,
if the cum-bonus price was $10, then the theoretical ex-bonus price would be $9.
How many of the above statements are true and how many are false?
o A. 3 statements are true and 2 are false
o B. 2 statements are true and 3 are false
o C. 4 statements are true and 1 is false
o D. All statements are true
92.Consider the following five statements: i. The expected return of a portfolio of
 shares is the weighted average of the expected returns for each share. ii. All other
things being equal, a cum-dividend share price should fall by the amount of a
dividend that is paid. iii. One of the effects of dividend imputation is the removal
of ‘double taxation’ of company profits that are distributed as dividends. iv. For
a shareholder with a marginal tax rate that is lower than the company tax rate, no
tax will be payable on the fully franked dividend received, and the excess credit
can be applied against other assessable income. v. In a one-for-nine bonus issue,
if the cum-bonus price was $10, then the theoretical ex-bonus price would be $9.
Which of the following is correct?
o A. i, ii, iii and v are true and iv is false
o B. i, ii, iv and v are true and iii is false
o C. i, ii, iii and iv are true and v is false
o D. All statements are true

True / False Questions

93. Continuous disclosure rules of a stock exchange mean that listed
companies must disclose any material information continuously every hour.
TRUE/FALSE
94.Efficient price discovery means that share information is disclosed at the
lowest possible transactions cost. TRUE/FALSE
95. A change in foreign exchange rates is a systematic risk that affects the
bulk of shares listed on a stock exchange. TRUE/FALSE
96. A share that has a beta of 0.5 is half as risky as the average
share listed on the share market. TRUE/FALSE
97.Passive investment involves building an investment portfolio based
on shares that are less risky than the overall share market.
TRUE/FALSE
98.If two assets are negatively correlated this means their
prices move in opposite directions. TRUE/FALSE
99.If investors alter the mix of shares in their portfolios as the share
market suddenly falls they are using a strategic asset allocation approach
to investing. TRUE/FALSE
100. A company's ability to meet short-term financial obligations is an
important financial performance indicator for an investor.
TRUE/FALSE
101. Historically, Australian banks have had low EPS ratios compared
with the retail sector because of the amount of lending they do.
TRUE/FALSE
102.When a share is trading cum-dividend, this means the seller of the
share will receive the dividend payment. TRUE/FALSE