Question 1

The portion of net income that is held by a firm,for future growth,comprises which one of the following balance sheet accounts?
A) capital surplus
B) common stock
C) internal earnings
D) retained earnings
E) net earnings

Accepted Answer

Retained earnings represent the portion of net income that a firm chooses to hold onto, rather than distribute as dividends, for future growth and investment. It is a component of the equity section of the balance sheet.

Question 2

What is the percentage of a firm's net income which is reinvested in the firm to support future growth called?
A) payout ratio
B) distribution percentage
C) retention ratio
D) equity ratio
E) equity reinvestment

Accepted Answer

The percentage of a firm's net income which is reinvested in the firm to support future growth is called the retention ratio. It is calculated as (Net Income - Dividends) / Net Income. The retention ratio is important as it indicates how much of the earnings are being retained by the company to reinvest in future growth opportunities rather than being paid out to shareholders as dividends. A higher retention ratio means that the company is retaining more earnings to invest in itself, which could lead to higher growth and potentially higher stock prices in the future.

Question 3

What is beta?
A) a rate of return measure
B) the return on a stock relative to the overall market
C) the rate of dividend growth
D) the percentage of net income paid out as a dividend
E) measure of a stock's risk relative to the stock market average

Accepted Answer

Beta is a measure of a stock's risk relative to the stock market average. A beta greater than 1 indicates higher volatility/risk than the overall market, while a beta less than 1 indicates lower volatility/risk than the overall market. Choices A, B, C, and D are incorrect because they do not accurately define beta.

Question 4

An analysis of which of the following are commonly included as part of fundamental analysis?
I.sales
II.book value
III.earnings per share
IV.cash flow
A) I and II only
B) I and IV only
C) II, III, and IV only
D) I, II, and IV only
E) I, II, III, and IV

Accepted Answer

Fundamental analysis typically includes examining sales, book value, earnings per share, and cash flow to assess a company's financial health and intrinsic value.

Question 5

The dividend discount model assumes that:
A) the dividend payout ratio will remain constant.
B) the dividend growth rate is equal to the discount rate.
C) discount rate increases at a constant rate.
D) at least one dividend will be paid in the future.
E) the dividend payout ratio increases at a constant rate.

Accepted Answer

The dividend discount model assumes that at least one dividend will be paid in the future to calculate the present value of expected future dividends.

Question 6

Growth stocks are frequently described as having which one of the following characteristics?
A) high dividends
B) a value orientation
C) high P/E ratios
D) low cash flows per share
E) low retention ratios

Accepted Answer

Growth stocks are typically characterized by high P/E ratios, which indicates that the market expects the company to experience strong earnings growth in the future. High dividends are typically associated with value stocks, which are more focused on providing steady income rather than rapid growth. Low cash flows and retention ratios are generally considered negative signals for any type of stock.

Question 7

The net income per share divided by the market price per share is called the:
A) profit margin.
B) profit yield.
C) market yield.
D) earnings yield.
E) income ratio.

Accepted Answer

The net income per share divided by the market price per share is called the earnings yield.

Question 8

What is the market value of a share of stock divided by the net income per share called?
A) earnings per share
B) price-earnings ratio
C) value-earnings ratio
D) earnings yield
E) market multiple

Accepted Answer

The market value of a share of stock divided by the net income per share is called the price-earnings ratio (P/E ratio). It represents how much investors are willing to pay per dollar of earnings. It is calculated by dividing the market price per share by the earnings per share (EPS). A high P/E ratio indicates that investors are willing to pay more for each dollar of earnings, which may indicate higher expectations for future growth or that the stock is overvalued. A low P/E ratio may indicate undervaluation or lower growth expectations.

Question 9

The method of valuing a stock based on the present value of the future income derived from that stock is called:
A) technical analysis.
B) constant valuation.
C) the basic stock valuation method.
D) compound dividend analysis.
E) the dividend discount model.

Accepted Answer

The method of valuing a stock based on the present value of the future income derived from that stock is called the dividend discount model. Therefore, the best choice is E.

Question 10

How is a sustainable dividend growth rate defined?
A) a constant rate at which dividends increase
B) a rate of growth that does not exceed two percent of the annual increase in revenue
C) a rate of growth that is set equal to one-half of the average growth rate of a firm's earnings
D) a rate that can be supported over time by a company's earnings
E) a rate of dividend growth that is equal to the discount rate used to value the firm's stock

Accepted Answer

A sustainable dividend growth rate is defined as a rate of dividend growth that can be supported over time by a company's earnings. This means that the company should be able to consistently generate enough profits to support the increased dividend payments to shareholders without relying on external funding sources. A constant rate (A) or a rate based on a percentage of revenue growth (B) may not take into account the profitability of a company, while a rate based on earnings growth rate (C) may be too optimistic or pessimistic depending on the circumstances. A rate equal to the discount rate used to value the firm's stock (E) may not always be sustainable or appropriate for every company.

Question 11

The price-book ratio is computed as the market value per share divided by the per share book value of:
A) total assets.
B) long-term debt.
C) equity.
D) long-term debt plus equity.
E) net working capital.

Accepted Answer

The price-book ratio compares the market value per share to the per share book value of equity. Therefore, the best choice is C, which represents the per share book value of equity.

Question 12

A firm's current stock price divided by the firm's revenue per share is referred to as which one of the following ratios?
A) price-earnings
B) price-book
C) price-income
D) price-sales
E) price-cash flow

Accepted Answer

The ratio of a firm's current stock price to its revenue per share is commonly referred to as the price-to-sales ratio (P/S ratio). It is calculated by dividing the market capitalization of the company by its annual sales. The P/S ratio is commonly used as a valuation tool to determine whether a stock is overvalued or undervalued in relation to its sales.

Question 13

What is the accounting relationship in which earnings per share minus dividends equal the change in book value per share called?
A) clean surplus relationship
B) economic value added relationship
C) accounting earnings identity
D) payout-retention identity
E) dividend valuation equation

Accepted Answer

The accounting relationship in which earnings per share minus dividends equal the change in book value per share is called the clean surplus relationship. This relationship is based on the clean surplus accounting model, which assumes that changes in equity can be explained by changes in net income, dividends, and other comprehensive income, without any adjustments for transactions with shareholders. The clean surplus relationship is important for understanding the link between earnings, dividends, and equity valuation, and for evaluating the quality of earnings and the sustainability of dividends.

Question 14

The Free Cash Flow Model: I.can be used to value a company with negative earnings.
II)is based on a firm having positive cash flows.
III)requires that a firm pay a dividend.
IV)directly estimates a value for a firm's equity
A) I only
B) I and II only
C) I and III only
D) I, II, and III only
E) I, II, III, and IV

Accepted Answer

The Free Cash Flow Model can be used to value a company with negative earnings (I) and is based on a firm having positive cash flows (II). However, it does not require a firm to pay a dividend (III) and it indirectly estimates a value for a firm's equity by subtracting debt and adding cash to the present value of expected future cash flows (IV).

Question 15

The model used to value a stock that pays a dividend which increases at a constant rate forever is referred to as which one of the following? Assume the growth rate is less than the discount rate.
A) diminishing valuation growth model
B) increasing valuation growth model
C) constant perpetual growth model
D) irregular growth perpetual model
E) two-stage growth model

Accepted Answer

The constant perpetual growth model, also known as the Gordon growth model, is used to value a stock that pays a dividend which increases at a constant rate forever. The formula for this model is P = D/(r-g), where P is the stock price, D is the expected dividend payment, r is the required rate of return, and g is the growth rate. Since the growth rate is less than the discount rate, this implies that the stock is currently overvalued and should be sold.

Question 16

Based on the dividend discount model,an increase in which of the following will lower the current value of a stock?
I.amount of the next dividend
II.dividend growth rate
III.discount rate
A) I only
B) III only
C) I and II only
D) II and III only
E) I, II, and III

Accepted Answer

III only. According to the dividend discount model, the current value of a stock increases with higher dividends and dividend growth rates, but decreases with a higher discount rate.

Question 17

The constant perpetual growth model assumes the:
A) dividends are paid for a stated number of years only.
B) net income is all paid out in dividends.
C) growth rate is less than the discount rate.
D) dividends are constant in amount.
E) discount rate increases at a constant rate.

Accepted Answer

The constant perpetual growth model, also known as the Gordon Growth Model, assumes that dividends will grow at a constant rate indefinitely, but for the model to be valid, the growth rate of dividends must be less than the discount rate. This ensures the present value of future dividends converges to a finite number.

Question 18

What is the percentage of a firm's earnings that is distributed to shareholders called?
A) payout ratio
B) distribution percentage
C) retention ratio
D) dividend portion
E) outflow ratio

Accepted Answer

The percentage of a firm's earnings that is distributed to shareholders is called payout ratio.

Question 19

Which one of the following terms is used to identify the evaluation method that determines the value of a stock by reviewing a firm's financial statement in conjunction with other financial and economic information?
A) technical analysis
B) conceptual analysis
C) prediction valuation
D) fundamental analysis
E) discounted valuation

Accepted Answer

Fundamental analysis involves a thorough review of a company's financial statements, economic trends, industry conditions, and management/team credentials to determine the intrinsic value of a stock. This analysis helps investors to make informed decisions about buying, selling, or holding a stock.

Question 20

The model used to value the stock of a firm which has a short-term growth rate that varies from its long-term growth rate is called the ________ dividend growth model.
A) flexible
B) increasing
C) two-stage
D) stepped up
E) geometric

Accepted Answer

The two-stage dividend growth model is designed to value the stock of a firm that has a short-term growth rate that is different from its long-term growth rate. This model assumes that the firm will experience a period of high growth in the near future, followed by a period of stable growth in the long term.

Quiz 6: Common Stock Valuation

The portion of net income that is held by a firm,for future growth,comprises which one of the following balance sheet accounts?

What is the percentage of a firm's net income which is reinvested in the firm to support future growth called?

What is beta?

An analysis of which of the following are commonly included as part of fundamental analysis? I.sales II.book value III.earnings per share IV.cash flow

The dividend discount model assumes that:

Growth stocks are frequently described as having which one of the following characteristics?

The net income per share divided by the market price per share is called the:

What is the market value of a share of stock divided by the net income per share called?

The method of valuing a stock based on the present value of the future income derived from that stock is called:

How is a sustainable dividend growth rate defined?

The price-book ratio is computed as the market value per share divided by the per share book value of:

A firm's current stock price divided by the firm's revenue per share is referred to as which one of the following ratios?

What is the accounting relationship in which earnings per share minus dividends equal the change in book value per share called?

The Free Cash Flow Model: I.can be used to value a company with negative earnings. II) is based on a firm having positive cash flows. III) requires that a firm pay a dividend. IV) directly estimates a value for a firm's equity

The model used to value a stock that pays a dividend which increases at a constant rate forever is referred to as which one of the following? Assume the growth rate is less than the discount rate.

Based on the dividend discount model,an increase in which of the following will lower the current value of a stock? I.amount of the next dividend II.dividend growth rate III.discount rate

The constant perpetual growth model assumes the:

What is the percentage of a firm's earnings that is distributed to shareholders called?

Which one of the following terms is used to identify the evaluation method that determines the value of a stock by reviewing a firm's financial statement in conjunction with other financial and economic information?

The model used to value the stock of a firm which has a short-term growth rate that varies from its long-term growth rate is called the ________ dividend growth model.