Deck 25: Risk Management

Question 1

All except which of the following are nonhedging strategies that can be used to manage business risk?

A) Acquisition of additional information
B) Forward contracts
C) Diversification
D) Insurance

Answer 1

B

Question 2

Which of the following is (are) a company's largest risk?
I. Exchange rate risk
II. Future raw material price risk

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Answer 2

Both statements I and II are correct.

Question 3

Which of the following statements about diversification is (are) correct?
I. Diversification may be able to reduce the risk of a portfolio to less than the weighted average risk of the assets.
II. Diversification is always prudent and should be expanded to include new, unrelated products whenever possible.

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Answer 3

Only statement I is correct.

Question 4

Which of the following is generally used to enforce rights under patents and copyrights?

A) Legal action
B) Takeover threats
C) Diversification
D) Retained earnings

Question 5

Which of the following is a loss that companies would self-insure?

A) Product breakage
B) Fraud
C) Unexpected business interruptions
D) Officer liability

Question 6

When a lack of information can result in business risk, which of the following can management not do to acquire additional information?

A) Refer to the annual reports of competitors for needed information
B) Purchase information from those that possess the knowledge needed
C) Form a panel to evaluate the product
D) Test market a product

Question 7

Which of the following is a motive for using insurance to manage risk?

A) Premiums, no matter how high, are consistent and easy to budget.
B) The firm intends to make money from the insurance company if a specified loss happens.
C) The firm does not want to be concerned with small, inconsequential losses and chooses to have the insurance company handle them.
D) Insurance can provide protection against events that can cause financial distress.

Question 8

Forward contracts are most common in ____ markets.

A) stock
B) agricultural
C) currency
D) bond

Question 9

To offset the lack of marketing information which could result in corporate risk, a firm can do which of the following?

A) Manufacture the product overseas
B) Develop more raw material suppliers
C) Test-market a product
D) Change advertising

Question 10

Which of the following is a related benefit of hedging external risks for a company?

A) Management can determine international markets for their product.
B) Management can forecast political events that may impact their sales.
C) Management can focus on performance and compensation factors that are under their control.
D) Management can determine the economic forces that will impact their earnings.

Question 11

Which of the following is not a method whereby a hedge is accomplished?

A) Using derivative securities
B) Owning several shares of a company's stock
C) Buying or selling a forward contract
D) Using an option in the cash market

Question 12

Firms work to diversify. Which of the following is not a diversification method that firms use?

A) Firms seek to expand the customer base.
B) Firms seek to obtain raw materials from several suppliers.
C) Firms seek to isolate their product by selling to a single niche market.
D) Firms seek to produce more than one product.

Question 13

Which of the following is a firm-specific asset?

A) Sewing machines designed for the manufacture of summer and winter clothes
B) Fire-retardant paint in lime green
C) Auto plant that can produce six styles of vehicles
D) A manufacturing plant that makes spiral staircases, wood railings and stairway carpeting

Question 14

The most important reason to hedge business risk is to reduce ____.

A) the chance of a business takeover
B) employee theft
C) management inaccuracies
D) the chance of financial distress

Question 15

Currency and commodity price volatility is a component of which of the following types of risk?

A) Systematic risk
B) Unsystematic risk
C) Operational risk
D) Nondiversifiable risk

Question 16

Which of the following statements about hedging of business risks by investors is (are) correct?
I. Operational information about companies is widely available and investors find it relatively simple to hedge business risk.
II. Investors have the necessary capital required to implement hedging strategies and do so consistently.

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Question 17

Which of the following is not a reason to reduce financial distress?

A) Enhanced debt capacity
B) Reduced WACC
C) Better currency exchange ratio
D) Ensure adequate cash flows

Question 18

Which of the following is not a loss generally insured by corporations?

A) Death of key employees
B) Executive bonuses
C) Fraud
D) Product liability

Question 19

A firm can reduce risk by gaining control over the operating environment. Which of the following is an example?

A) Using general purpose assets.
B) Hedging through a futures contract.
C) Increasing the customer base.
D) Using patents and copyrights.

Question 20

Which of the following statements about risk is (are) correct?
I. Risk is the possibility that the actual cash flows will be different from the expected cash flows.
II. Risk management is utilized by companies to provide a chance to make a quick profit.

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Question 21

In the futures market, losers must pay winners each day. This is called ____.

A) paying up
B) selling short
C) taking a long position
D) marking to market

Question 22

Which of the following is not a derivative security?

A) Forwards
B) Margins
C) Futures
D) Options

Question 23

A "clearinghouse" operated by the futures exchange handles the ____.

A) offices of the future contract buyers
B) location of the future contract sellers
C) payments between buyers and sellers
D) actual products bought and sold

Question 24

Which of the following statements is (are) true about futures contracts?
I. The buyer of the contract must take delivery of the underlying commodity.
II. To reverse a position, the buyer of a contract must sell an identical contract which is recognized as offsetting the other one.

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Question 25

An example of hedging to control risk would be ____.

A) car makers reducing the number of models that will be manufactured this year
B) toy stores placing orders in December for toys needed by Christmas
C) airline companies attempting to lock in the price paid for fuel
D) fashion designers offering showings of their new clothing line in several major cities

Question 26

Acquisition of additional information can be accomplished by all except which of the following?

A) Employing individuals or firms with the needed expertise
B) Test-marketing
C) Paying to have new issues of bonds "rated"
D) Changing the location of the distributorship

Question 27

Which of the following statements is (are) correct about a forward contract?
I. Forward contracts require a good faith deposit before an agreement can be reached.
II. Forward contracts are considered extremely risky since the price for the asset is determined when the contract matures.

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Question 28

A long hedge requires ____ a futures contract.

A) the creation of
B) the selling of
C) the buying of
D) margining

Question 29

Marking to market is a procedure for ____ contracts.

A) futures
B) forwards
C) margin
D) implied

Question 30

Forward contracts are said to possess ____ risk.

A) business
B) financial
C) performance
D) spot

Question 31

Which of the following is the most important reason for firms to use risk management techniques?

A) To make supernormal profits
B) To reduce the chance of catastrophic financial distress
C) To reduce management's liability
D) To control inventory losses

Question 32

Which of the following is a facilitator in all futures trades, since all contracts are purchased from or sold by this entity?

A) The futures clearinghouse
B) The futures trading floor
C) The futures broker
D) The futures exchange

Question 33

Which of the following statements about risk management strategy is (are) correct?
I. It reduces the variability of a firm's expected cash flows.
II. It reduces the chance of catastrophic financial distress.

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Question 34

A short hedge requires ____ a futures contract.

A) margining
B) creating
C) the buying of
D) the selling of

Question 35

Which of the following is the current price in a futures contract?

A) Volatile price
B) Spot price
C) Short price
D) Long price

Question 36

A risk that shareholder wealth-maximizing managers should seek to offset in the firm that they are managing is _____ risk.

A) dividend payout
B) exchange rate
C) research and development
D) leasing

Question 37

An example of hedging to control currency exchange rate risk is a wine distributor ____.

A) currently importing wine made from the 2010 vintage
B) paying for wine today that will be delivered in three years
C) that visits the vineyard where wine is made before buying the vintage
D) that settles all of its bills with euros

Question 38

Reason(s) to manage risk by hedging include(s) which of the following?
I. To be able to have needed cash flows
II. To reduce the chance of financial loss

A) Only statement I is correct
B) Only statement II is correct
C) Both statements I and II are correct
D) Neither statement I nor II is correct

Question 39

Financial derivatives can be used to manage all except which of the following risks?

A) Earnings risks
B) Currency risks
C) Pricing risks
D) Interest rate risks

Question 40

A futures contract is a(n) ____ contract.

A) implied
B) negotiated
C) standardized
D) variable

Question 41

What options does the buyer of a futures contract have at the time the futures contract matures?

Question 42

What is marking to market and how is this process guaranteed?

Question 43

How does hedging reduce or eliminate business risks?

Question 44

What is a hedge?