questions and detailed answers

09 Jun questions and detailed answers

Short Term Financial Management (Chapters 18, 19, and 20)

1. What are a firm’s operating cycle, inventory period, accounts receivable period and cash cycle? What might be the goals of managing these in a well-managed firm?

2. Describe the differences between a flexible and restrictive current assets management policy. What are the advantages and disadvantages of each?

3. What is a cash budget? Why is it so important to use one?

4. With advances in technology, “float” periods are rapidly disappearing. What is float and what are the pros and cons of it going away?

5. You are a new company and are in the process of developing your policies on credit sales. What are the components of this policy and what are some important things you need to consider?

6. Describe the major things you need to consider when managing inventory.

Leasing

1. Compare operating leases, financial leases and sale and leasebacks

2. (High Value Question) Be able to analyze a lease from both lessee’s and lessor’s viewpoint. NAL

3. Why is the estimated residual value so important in determining lease rates?

4. Why is the tax differential between firms so crucial to a successful lease negotiation?

5. Would higher residual value risk may a company more or less likely to lease an asset? Why?

6. Suppose Congress enacted new tax law changes that would: (1) permit equipment to be depreciated over a shorter period, (2) lower corporate tax rates, and (3) reinstate the investment tax credit. Discuss how each of these potential changes would affect the relative volume of leasing versus conventional debt in the U.S. economy.

7. What is a sale-and-leaseback transaction and why would a company want to use one?

8. How could you figure out the lowest and highest lease payment that would make it highly probably that a lease transaction would take place between a lessor and lessee?

Risk Management and Futures Contracts

1. If you were importing shoes from China and were going to owe the manufacturer 10,000,000 Yuan in three months how could you use futures markets to protect yourself from currency fluctuations that might hurt you financially? Be very specific about how the process would work. Be sure to discuss all possible outcomes.

2. What is hedging? Give a detailed example in your answer. Are there any disadvantages to hedging?

3. Explain how a large farming operation might make use of futures contracts in their business. Be specific about the process. Be sure to discuss the possible outcomes.

4. You are three months away from completing a large construction project and obtaining $10,000,000 in permanent financing. You believe interest rates are currently very good and want to hedge against the risk of interest rates going up. Explain how you could do that. Be sure to discuss all possible outcomes.

5. Explain how an interest rate swap works. Why might a company want to participate in a swap?

6. (High Value Question) Airlines have historically used the futures market to hedge against fluctuations in fuel costs. How did they accomplish this?

a. During the last few years when fuel prices were at record lows, many airlines have ceased hedging operations. What are the advantages and disadvantages of not hedging?

b. If oil prices started moving downward after an airline had hedged, is it possible for the airline to unhedge? What are the advantages and disadvantages of this move?

7. Methods that companies use to manage/mitigate risk. (Insurance, Risk Transfer, etc.)

8. Why are speculators valuable to our financial markets?

Options

1. Explain how the following factors affect the value of both puts and calls.

a. Volatility

b. Strike Price

c. Time to Expiration

d. Market Value of Underlying Stock

2. Does an option have to be “in-the-money” for you to make money on your option investment? Explain.

3. What is time decay?

4. Explain how you could increase your portfolio returns by using covered calls. How would you describe the level of risk involved in writing covered calls relative to other option strategies?

5. In what situation would an investor write a put option? Would the investor necessarily be upset if the put was exercised? Explain.

6. Why do the vast majority of sophisticated option investors use combination strategies such as straps, strangles, straddles, collars, butterfly spreads, iron condors and iron butterflies? Pick one of these combination strategies and explain specifically how it works and why you would want to use it.

7. How can put options be used to reduce the risk of a stock investment? What are the advantages and disadvantages of doing this? Is this the same as hedging? Explain.

Behavioral Finance, Bubbles and Efficient Markets

1. What does it mean for a market to be efficient?

2. Advantages of efficient markets?

3. Name and describe three behaviors identified in behavioral finance that cause investors to make sub-optimal decisions.

4. Describe three major historical bubbles in detail.

5. Be able to answer a general question from the following videos:

a. China’s Real Estate Bubble

b. House of Cards

c. The Bubble Decade

d. Mind Over Money