Deck 19: The Information Conveyed by Financial Decisions

Question 1

Holding all else constant,an increase in dividend implies a:

A)a higher retention rate.
B)a decrease in earnings per share.
C)lower cash flows.
D)higher share price.

Answer 1

D

Question 2

Which of the following is true of the impact of dividend change on market value (MV)and book value (BV)?

A)Firms with book values that exceed their market values are believed to have favourable investment opportunities.
B)High-MV/BV firms generally have higher dividend yields.
C)Low-MV/BV firms are likely to attract investors who are less interested in dividends.
D)Increases in the dividends of high-MV/BV firms are less likely to be viewed as a surprise.

Answer 2

D

Question 3

Which of the following is an incentive for managers to understate their company's earnings?

A)To gain from increasing share prices
B)To get the government help against foreign competitors
C)To increase the value of pension
D)To increase the return on assets

Answer 3

B

Question 4

Which of the following is the accurate algebraic expression of the dividend signalling model?

A)Operating cash flow = Investment expenditures - Change in equity + Dividends
B)Operating cash flow = Financing expenditures - Change in equity + Dividends
C)Operating cash flow = Financing expenditures - Change in equity - Dividends
D)Operating cash flow = Investment expenditures - Change in equity - Dividends

Question 5

Which of the following could be a reason why managers bias their decisions towards actions that reveal the most favourable information to investors?

A)To maintain their autonomy
B)To create value for the equity share holders
C)To increase demand for the firm's products
D)To improve the average share price

Question 6

Which of the following is true of equity returns at the time of dividend announcements?

A)Share prices decrease,on average,when firms increase dividends.
B)Dividend increases can diminish intrinsic values of firms.
C)Financial decisions that convey favourable information to the market tend to decrease share prices,when the decisions are bad for the firm's future profitability.
D)When earnings predictions are released at the same time,dividends lose their predictive power and signalling content.

Question 7

During financial difficulties,a preference share issue may offer the best source of capital for a firm.Why?

Question 8

If a project can be financed with riskless debt,then the share's intrinsic value will be equal to:

A)(Value of current assets + NPV of new project) $\div$ Number of shares.
B)(Value of original assets + NPV of new project) $\div$ Number of shares.
C)(Value of current assets - NPV of new project) $\div$ Number of shares.
D)(Value of original assets - NPV of new project) $\div$ Number of shares.

Question 9

Which of the following is an assumption of the dividend signalling model?

A)Investors have homogeneous expectations.
B)There are no arbitraging opportunities.
C)Firms are 100% equity-financed.
D)Markets are frictionless.

Question 10

Good decisions can reveal unfavourable information,and bad decisions can reveal favourable information.This means that:

A)share price reactions are always good indicators of whether a decision has a positive or a negative effect on a firm's intrinsic value.
B)managers who are concerned about the current or short-term share prices of their firms may bias their decisions in ways that reduce the intrinsic values of their firms.
C)though the weight that managers place on the potentially conflicting incentives is determined by the manager's compensation,it will have a neutral impact on the intrinsic value.
D)the ability to attract customers and other outside stakeholders are related to outsiders' perceptions of the firm's value and not on the intrinsic value of the firm.

Question 11

Explain how capital structure of a firm conveys information to investors.

Question 12

The intrinsic value of a firm refers to:

A)the current market value of its total assets.
B)the difference between the historical values of its assets and liabilities.
C)the firm's full information value.
D)the current market value of the firm.

Question 13

A market-adjusted excess return is:

A)the equity's return plus the equity's beta times the market return on that date.
B)the equity's return less the equity's beta times the market return on that date.
C)the market-risk premium less the equity's beta times the market return on that date.
D)the market-risk premium plus the equity's beta times the market return on that date.

Question 14

Adverse selection means that:

A)uninformed investors try to mimic high-net worth-individuals in the selection of stocks.
B)the incentive to issue equity is highest when management believes that the firm's share price is less than its intrinsic value.
C)individuals will select their best actions based on their private information.
D)investment selections of inexperienced investors are mostly random and have an adverse effect on their portfolio.

Question 15

Share prices react negatively,on average,to announcements that firms will:

A)be raising capital.
B)be using internal capital to fund investments.
C)be distributing cash to shareholders.
D)be retiring bonds before expiry.

Question 16

Which of the following sources of capital is said to not create the problems associated with financial distress?

A)Commercial paper
B)Ordinary shares
C)Debt financing
D)Preference shares

Question 17

Which of the following is true of a firm's capital structure and its value?

A)An increase in a firm's debt ratio is considered a favourable signal because it indicates that managers believe the firm will be generating taxable earnings in the future.
B)Under all circumstances,an increase in a firm's debt ratio is considered an unfavourable signal because it indicates that they are overly concerned about their short-term liquidity.
C)Though managers understand that their firm's share price is likely to respond favourably to higher leverage ratios,they do not have an incentive to choose higher leverage.
D)An advantage for unlevered firms over levered firms is that any critical business decision is perceived as a favourable signal.

Question 18

Explain earnings manipulation.

Question 19

Explain how the short-term and long-term investors are affected when the managers of a firm have better information.