Financial Management Test

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Financial Management Test - 29

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Weekly Quiz Competition

Question 1
1 / -0

Which of the following is required for the day-to-day operation of the business?

A
Fixed capital

B
Working capital

C
Permanent capital

D
All of the above

Solution

The working capital of a business is used for the day-to-day operations of a business. It is calculated by reducing current liabilities from current assets. Working capital indicates the liquidity level of a business.
Question 2
1 / -0

Permanent working capital is generally financed through _________.

A
long term capital funds

B
government assistance

C
internal financing

D
short term loans from banks
Solution
- Every business needs funds to finance its assets and activities. Investment is required to be made in fixed assets and current assets.
- Fixed assets are those which remains in the business for more than one year, usually for much longer e.g., plant and machinery, furniture and fixture, land and building, vehicles etc.These assets can also be termed as permanent working capital.
- Decision to invest in fixed assets must be taken very carefully as the investment is usually quite large.
- It must be financed through long-term sources of capital such as equity or preference shares, debentures, long-term loans and retained earnings of the business. Fixed Assets should never be financed through short-term sources.
Question 3
1 / -0

Which of the following internal factors influence capital structure?
I. Cost of capital
II. Risk
III. Transferability
IV. Increased owner's profits

A
I and II are correct

B
III and IV are correct

C
I, III and IV are correct

D
All are correct

Solution

Capital Structure constitutes two words i.e. Capital and Structure. The word $$‘capital’$$ refers to the investment of funds in business while ‘structure’ means arrangement of different components in proper proportion.
Factors affecting capital structure:
Cost of capital : - It is a process of raising the funds which involves the cost in planning the capital structure, the use of capital should be capable of earning revenue to meet the cost of capital.
Risk Factor:- Risk influence the capital structure of the company.Debt contains low risk and hence debts are cheap whereas shares possess higher risk with higher return.
Transferability:- Many companies put their securities for quotation on the
stock exchange quotations and improve the transferability of shares.
Increased owner's profits:- Equity stock may result in a possible increase of operation to control in an enterprise.
Question 4
1 / -0

When the Return On Investment (ROI) exceeds interest rate, the financial leverage is ______.

A
Favourable

B
Unfavourable

C
Constant

D
None of the above
Solution
- Return on investment $$(ROI)$$ is a measure of the profitability of an investment.
- A high return on investment means that an investment generates favorable profit compared to its investment cost.
- If an investment has a positive $$ROI$$ and there are no other opportunities with a higher $$ROI$$ then the investment should be undertaken.
- A higher $$ROI$$ means that investment gains compare favorably to investment costs.

Question 5

1 / -0

Match the following:

List - I	List - II
(a) Matching approach	$$1.$$ Dividend Policy
(b) Structural ratios	$$2.$$ Inventory Management
(c) Ordering quantity	$$3.$$ Financing Working Capital
(d) Bonus shares	$$4.$$ Capital Structure

$$(a) - 1, (b) - 2, (c) - 3, (d) - 4$$

$$(a) - 3, (b) - 4, (c) - 1, (d) - 2$$

$$(a) - 3, (b) - 4, (c) - 2, (d) - 1$$

$$(a) - 2, (b) - 1, (c) - 3, (d) - 4$$

Solution

Matching approach is a strategy of working capital financing where the short-term funds are sourced from short-term debts and long-term from long-term debts.
Structural ratios are type of capital structure ratios that are based on the proportions of debt and equity in the capital structure of the firm.
The Economic Order Quantity (EOQ) is a part of inventory management. It is the ideal ordering quantity which minimizes total holding and ordering costs of the year.
Use of Bonus share is an integral part of dividend policy of a firm

Question 6
1 / -0

The guiding principle in determining the capital structure of an enterprise:

A
The nature of earnings

B
Margin of gross profit

C
Margin of net profit

D
All of the above

Solution

Capital structure refers to the proportions or combinations of equity share capital, preference share capital, debentures, long-term loans, retained earnings and other long-term sources of funds in the total amount of capital which a firm should raise to run its business. The nature of earnings is the guiding principles in determining the capital structure. Nature of earning may be long term or short term, may be in the nature of interest or in the nature of dividend.
Question 7
1 / -0

What combination of the following factors influences the working capital requirement?
(i) Market Conditions
(ii) Production Policy
(iii) Firm's goodwill
(iv) Supply conditions

A
(i), (ii) and (iii)

B
(ii), (iii) and (iv)

C
(i), (iii) and (iv)

D
(i), (ii) and (iv)
Solution
Factors influencing the working capital requirement are:
Market conditions: If the competition is intense, then the company has to spend a lot of money on running advertising campaigns and sales promotion. It will also have to keep more stock and sell on credit. So, it will require more working capital.
Production policy: A service company usually has a short operating cycle or period. It also sells on a cash basis. So, it requires less working capital. For example, electricity and transport companies.
A manufacturing company usually has a long operating cycle. It also sells on a credit basis. Therefore, it requires more working capital. For example, machine tools companies.
Supply conditions:The working capital requirements of the company depends on the conditions of supply:
If the supply of raw materials is regular, then the company can keep less inventory (stock). So, it will require less working capital.
But, if the supply is irregular then the company has to hold more stock. Therefore, in such a case, it will need more working capital.
Question 8
1 / -0

Insufficient working capital in any enterprise may also result in _______.
I. Failure to adapt to changes
II. Over-capitalization
III. Reduced availability of trade and cash discounts
IV. Reduced volume of production and sales

A
I, II and III only

B
I, III and IV only

C
II and III only

D
I and IV only
Solution
- Working capital is the difference between an organization’s current assets and its current liabilities.
- Working capital management ensures a company has sufficient liquidity (cash flow) in order to meet its short-term obligations and operating expenses.
- A poor and inefficient working capital management leads to tying up of funds in idle assets and reduces the liquidity and profitability of a company.
- It thus prevents from failures to adapt to changes, reduced availability of trade and cash discounts, reduced volume of production and sales etc..
Question 9
1 / -0

Which one of the following is not among the assumptions of the Modigliani-Miller model?

A
Perfect capital market

B
Equivalent risk classes

C
Unity for dividend payout ratio

D
Absence of taxes

Solution

According to Modigliani and Miller (M-M), dividend policy of a firm is irrelevant as it does not affect the wealth of the shareholders. They argue that the value of the firm depends on the firm’s earnings which result from its investment policy.
Modigliani and Miller model is based on the following assumptions :
1. The firm operates in perfect capital market.
2.The firm has a fixed investment policy.
3. Absence of taxes.
4. Risk of uncertainty does not exist. That is, investors are able to forecast future prices and dividends with certainty and one discount rate is appropriate for all securities and all time periods.

Question 10

1 / -0

Match the statements in List-I with dividend models in List-II as follows:

List-I	List-II
(a) Dividend Capitalization Approach	(i) Traditional Model
(b) Dividend Policy has a bearing on the share valuation	(ii) Gordon Model
(c) Stock Market places more weight on dividends than on retain earnings	(iii) Walter Model
(d) Dividend payout is irrelevant to the value of the firm	(iv) Modigliani and Miller Model

$$(a) - (ii), (b) - (iii), (c) - (i), (d) - (iv)$$

$$(a) - (i), (b) - (ii), (c) - (iv), (d) - (iii)$$

$$(a) - (iv), (b) - (i), (c) - (iv), (d) - (ii)$$

$$(a) - (iii), (b) - (iv), (c) - (ii), (d) - (i)$$

Solution

The Gordon's Dividend Capitalization Model is a method for calculating the intrinsic value of a stock, exclusive of current market conditions.
Walter’s model on dividend policy believes in the relevance concept of a dividend that affects the valuation of company's shares.
Traditional theory states that the stock market places considerably more weight on dividends than on retained earnings.
Modigliani – Miller theory supports the 'dividend irrelevance' notion. It suggests that dividends are irrelevant in calculating the valuation of a company

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Financial Management Test - 29

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Financial Management Test - 29

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SHARING IS CARING

Question 1

Fixed capital

Working capital

Permanent capital

All of the above

Solution

Question 2

long term capital funds

government assistance

internal financing

short term loans from banks

Solution

Question 3

I and II are correct

III and IV are correct

I, III and IV are correct

All are correct

Solution

Question 4

Favourable

Unfavourable

Constant

None of the above

Solution

Question 5

$$(a) - 1, (b) - 2, (c) - 3, (d) - 4$$

$$(a) - 3, (b) - 4, (c) - 1, (d) - 2$$

$$(a) - 3, (b) - 4, (c) - 2, (d) - 1$$

$$(a) - 2, (b) - 1, (c) - 3, (d) - 4$$

Solution

Question 6

The nature of earnings

Margin of gross profit

Margin of net profit

All of the above

Solution

Question 7

(i), (ii) and (iii)

(ii), (iii) and (iv)

(i), (iii) and (iv)

(i), (ii) and (iv)

Solution

Question 8

I, II and III only

I, III and IV only

II and III only

I and IV only

Solution

Question 9

Perfect capital market

Equivalent risk classes

Unity for dividend payout ratio

Absence of taxes

Solution

Question 10

$$(a) - (ii), (b) - (iii), (c) - (i), (d) - (iv)$$

$$(a) - (i), (b) - (ii), (c) - (iv), (d) - (iii)$$

$$(a) - (iv), (b) - (i), (c) - (iv), (d) - (ii)$$

$$(a) - (iii), (b) - (iv), (c) - (ii), (d) - (i)$$

Solution

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