Deck 21: Risk Management

Question 1

All of the following are losses generally insured by corporations EXCEPT:

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

Answer 1

B

Question 2

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.

Answer 2

A

Question 3

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

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

Answer 3

A

Question 4

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 5

All of the following are non-hedging strategies that can be used to manage business risk EXCEPT:

A) acquisition of additional information
B) forward contracts
C) diversification
D) insurance

Question 6

Which of the following is/are a company's largest risk?
I) exchange rate risk
II) future raw material price risk

A) I only
B) II only
C) Both I and II
D) Neither I nor II

Question 7

All of the following are reasons to reduce financial distress EXCEPT:

A) enhanced debt capacity.
B) reduced WACC.
C) better currency exchange ratio.
D) ensure adequate cash flows.

Question 8

When a lack of information can result in business risk, management can do all of the following to acquire additional information EXCEPT:

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 9

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 10

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) I only
B) II only
C) Both I and II
D) Neither I nor II

Question 11

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) I only
B) II only
C) Both I and II
D) Neither I nor II

Question 12

The most important reason to hedge business risk is to:

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

Question 13

Firms work to diversify. All of the following are diversification methods that firms use EXCEPT:

A) Firms seek to expand the customer base.
B) Firms seek to obtain raw materials from a number of 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 14

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 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) Non-diversifiable risk

Question 16

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 17

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) I only
B) II only
C) Both I and II
D) Neither I nor II

Question 18

All of the following are methods whereby a hedge is accomplished EXCEPT:

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 19

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

A) I only
B) II only
C) Both I and II
D) Neither I nor II

Question 20

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 21

An example of hedging to control currency exchange rate risk is:

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

Question 22

Which of the following describes basis risk?

A) a natural disaster that affects the underlying commodity
B) the risk that the commodity is not marketable
C) the variance in the price of the commodity and the value of the American dollar
D) a change in the relationship between the futures price and the local spot price

Question 23

A short hedge requires the ____ a futures contract.

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

Question 24

A long hedge requires ____ a futures contract

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

Question 25

Some reasons to manage risk by hedging are which of the following?
I) Ability to have needed cash flows.
II) Reduce the chance of financial loss

A) I only
B) II only
C) Both I and II
D) Neither I nor II

Question 26

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

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

Question 27

All of the following are derivative securities EXCEPT:

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

Question 28

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 29

An example of hedging in order 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 30

Marking to market is a procedure for _____________ contracts.

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

Question 31

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 32

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 33

Forward contracts are most common in ____ markets.

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

Question 34

Financial derivatives can be used to manage all of the following risks EXCEPT:

A) earnings risks
B) currency risks
C) pricing risks
D) interest rate risks

Question 35

Which of the following statements is/are correct about the reasons why hedging is difficult to do perfectly?
I) Available futures contract sizes may not match the hedging needs of the firm.
II) There may be a change in the relationship between the futures price and the local spot price.

A) I only
B) II only
C) Both I and II
D) Neither I nor II

Question 36

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) I only
B) II only
C) Both I and II
D) Neither I nor II

Question 37

Which of the following statements about risk management strategies 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) I only
B) II only
C) Both I and II
D) Neither I nor II

Question 38

Acquisition of additional information can be accomplished by all of the following EXCEPT:

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 39

Forward contracts are said to possess ____ risk.

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

Question 40

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 41

What is a hedge?

Question 42

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

Question 43

List several reasons why a firm may choose to employ risk management techniques.

Question 44

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

Question 45

List some nonhedging risk management strategies.

Question 46

List five hedging strategies for risk management

Question 47

A "clearinghouse" operated by the futures exchange handles:

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

Question 48

A futures contract is a(n) ________________contract.

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

Question 49

How does hedging reduce or eliminate business risks?