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FINANCE FINAL EXAM CONCEPTUAL QUESTIONS AND ANSWERS -12
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FINANCE FINAL EXAM CONCEPTUAL QUESTIONS AND ANSWERS -12
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FINANCE FINAL EXAM CONCEPTUAL QUESTIONS AND ANSWERS#12
What rights come with a share of stock? - correct answer A share of stock gives its
owner the right to elect board members, vote on certain transactions of the firm (such as
mergers), and receive periodic dividend payments as a partial return on the investment
in the stock
Which two components make up the total return to an investor in a share of stock? -
correct answer The two components of the total return of the stock are the dividend
payments and the capital appreciation (price change) of the stock
What does the dividend-discount model say about valuing shares of stock? - correct
answer The model states that the value of a share of stock should equal the present
value of all future payments to be received from the stock. It is direct application of the
Valuation principle
What is the relationship between the return from reinvesting cash flows and the change
in the price of the stock? - correct answer In general, if the return is greater than the
firm's cost of capital, then reinvesting cash flows will increase the stock price increases.
If the return is less than the firm's cost of capital, the stock price will fall
How can the dividend-discount model be used with changing growth rates in future
dividends? - correct answer The dividend discount model is easily adaptable to multiple
growth rates in divdidends. Just forecast the dividends until the growth rate stays
constant into perpetuity, then take the present value of the dividends. Simple in excel.
What are some of the drawbacks of the dividend-discount model? - correct answer
Relies on forecasting dividends, which can be very uncertain. It also does not apply to
non-dividend paying stocks
What are share repurchases, and how can they be incorporated into the valuation of a
stock? - correct answer Are the investment of a firm's cash flow in its own stock. This
reduces the number of shares outstanding. To incorporate share repurchases in the
valuation of a stock, it is best to use the total payout model instead of the dividend-
discount model
What are the advantages of valuing a stock based on discounted free cash flows? -
correct answer Advantage is that it allows us to value a firm without explicit forecasting
its dividends, share repurchases, or use of debt
Explain the connection between the FCF valuation model and capital budgeting -
correct answer Just as we determine the value of a project by calculating the NPV of the
project's free cash flow, we estimate a firm's current enterprise value by computing the
PV of the firm's free cash flow
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